**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,DC 20549**

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**FORM 10-Q**

**Mark One**

**x QuarterlyReport Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934for the Quarterly Period Ended March 31, 2007.**

**or**

**o**            Transition ReportPursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for theTransition Period From              To                ..

**Commissionfile number:  000-25755**

**WORLDGATE COMMUNICATIONS, INC.**

(Exact Name ofRegistrant as Specified in Its Charter)

| **Delaware**              | ** ** | **23-2866697**                        |
|---------------------------|------------|---------------------------------------|
| (State of  Incorporation) |       | (I.R.S. Employer  Identification No.) |

 

**3190 Tremont AvenueTrevose, Pennsylvania 19053**

(Address ofPrincipal Executive Offices)            (Zip Code)

**(215) 354-5100**

(Registrant’sTelephone Number, Including Area Code)

Indicate by check mark whether the registrant: (1) has filed allreports required to be filed by Section 13 or 15(d) of the Securities ExchangeAct of 1934 during the preceding 12 months (or for such shorter period that theregistrant was required to file such reports), and (2) has been subject to suchfiling requirements for the past 90 days.

Yes x  No o

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer , or a non-accelerated filer.  See definition of “accelerated filer andlarge accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o          Accelerated filer x          Non-accelerated filer o

Indicate by a check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act).

Yes o  No x

As of May 2, 2007, there were 43,356,242 shares of common stock, parvalue $.01 per share, outstanding.

 

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**WORLDGATECOMMUNICATIONS, INC.**

**QUARTERLY REPORT ON FORM 10-Q**

**FOR THETHREE MONTHS ENDED MARCH 31, 2007**

**TABLE OFCONTENTS**
| **PART I. FINANCIAL  INFORMATION** |          |
|------------------------------------|---------------|
|                               |          |   |   |
| Item 1.                            |          | Financial Statements |   |
| Item 2.                            |          | Management’s  Discussion And Analysis Of Financial Condition And Results Of Operations |   |
| Item 3.                            |          | Quantitative  And Qualitative Disclosures About Market Risk |   |
| Item 4.                            |          | Controls And  Procedures |   |
|                               |          |   |   |
| **PART  II. OTHER INFORMATION**    |          |
|                               |          |   |   |
| Item 1.                            |          | Legal Proceedings |   |
| Item  1A.                          | Risk  Factors |   |
| Item 2.                            |          | Unregistered  Sales Of Equity Securities And Use Of Proceeds |   |
| Item 3.                            |          | Defaults Upon  Senior Securities |   |
| Item 4.                            |          | Submission Of  Matters To A Vote Of Security Holders |   |
| Item 5.                            |          | Other Information |   |
| Item  6.                           |          | Exhibits |   |
|                                    |               |  |  |  |  |

 

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# **PART I. FINANCIAL INFORMATION**

# **ITEM1.  FINANCIAL STATEMENTS**

**WORLDGATECOMMUNICATIONS, INC.**

**CONDENSED CONSOLIDATED BALANCESHEETS**

**( INTHOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)**
| ** **                                                                                                                                                                                   | ** ** | **March 31,  2007** | ** ** | **December 31,  2006** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                                                                   | ** ** | **(Unaudited)**          | ** ** | **(Audited)**               | ** ** |
| ASSETS                                                                                                                                                                                       |       |                     |       |                        |       |
| Current assets:                                                                                                                                                                              |       |                     |       |                        |       |
| Cash and cash  equivalents                                                                                                                                                                   |       | $                        | 4,984      |                        | $          | 10,067 |   |
| Trade accounts  receivables, less allowance for doubtful accounts of $0                                                                                                                      |       | 879                      |       | 1,005                       |       |
| Other  receivables                                                                                                                                                                           |       | 13                       |       | 17                          |       |
| Inventory                                                                                                                                                                                    |       | 1,929                    |       | 1,600                       |       |
| Prepaid and  other assets                                                                                                                                                                    |       | 234                      |       | 490                         |       |
| Total current  assets                                                                                                                                                                        |       | 8,039                    |       | 13,179                      |       |
| Property and equipment                                                                                                                                                                       |       | 4,532                    |       | 4,494                       |       |
| Less:  accumulated depreciation and amortization                                                                                                                                             |       | (3,397                   | )          | (3,228                      | )          |
| Property and  equipment, net                                                                                                                                                                 |       | 1,135                    |       | 1,266                       |       |
| Deposits and other  assets                                                                                                                                                                   |       | 121                      |       | 121                         |       |
| Total assets                                                                                                                                                                                 |       | $                        | 9,295      |                        | $          | 14,566 |   |
|                                                                                                                                                                                         |       |                     |       |                        |       |
| LIABILITIES AND  STOCKHOLDERS’ (DEFICIENCY) EQUITY                                                                                                                                      |       |                     |       |                        |       |
| Current liabilities:                                                                                                                                                                         |       |                     |       |                        |       |
| Accounts payable                                                                                                                                                                             |       | $                        | 852        |                        | $          | 1,654 |   |
| Accrued expenses                                                                                                                                                                             |       | 1,071                    |       | 1,240                       |       |
| Accrued  compensation and benefits                                                                                                                                                           |       | 198                      |       | 48                          |       |
| Dividend payable  on Preferred Stock                                                                                                                                                         |       | 2                        |       | 2                           |       |
| Detachable Warrants                                                                                                                                                                          |       | 370                      |       | 997                         |       |
| Conversion  option on Preferred Stock                                                                                                                                                        |       | 0                        |       | 11                          |       |
| Conversion  option on convertible debt                                                                                                                                                       |       | 5,577                    |       | 7,044                       |       |
| Incentive sales  claims liability                                                                                                                                                            |       | 47                       |       | 50                          |       |
| Warranty reserve                                                                                                                                                                             |       | 79                       |       | 85                          |       |
| Deferred  revenues                                                                                                                                                                           |       | 296                      |       | 267                         |       |
| Total current  liabilities                                                                                                                                                                   |       | 8,492                    |       | 11,398                      |       |
|                                                                                                                                                                                         |       |                     |       |                        |       |
| Long term liabilities:                                                                                                                                                                       |       |                     |       |                        |       |
| Convertible debenture  payable (net of unamortized discount of $7,342 at March 31, 2007 and $8,625  at December 31, 2006)                                                                    |       | 1,308                    |       | 1,025                       |       |
| Total  liabilities                                                                                                                                                                           |       | 9,800                    |       | 12,423                      |       |
|                                                                                                                                                                                         |       |                     |       |                        |       |
| Commitments and  contingencies                                                                                                                                                               |       |                     |       |                        |       |
| Redeemable Preferred  Stock, $.01 par value, 7,550 shares authorized; 166 shares issued and  outstanding at March 31, 2007, and December 31, 2006                                            |       | 153                      |       | 141                         |       |
| Stockholders’ equity:                                                                                                                                                                   |       |                     |       |                        |       |
| Preferred Stock, $.01  par value, 13,492,450 shares authorized; 0 shares issued at March 31, 2007  and December 31, 2006                                                                     |       | 0                        |       | 0                           |       |
| Common Stock, $.01 par  value; 120,000,000 shares authorized; 42,528,847 shares issued and  outstanding at March 31, 2007 and 41,535,443 shares issued and outstanding at  December 31, 2006 |       | 425                      |       | 415                         |       |
| Additional paid-in  capital                                                                                                                                                                  |       | 250,318                  |       | 248,393                     |       |
| Accumulated deficit                                                                                                                                                                          |       | (251,401                 | )          | (246,806                    | )          |
| Total  stockholders’ (deficiency) equity                                                                                                                                                |       | (658                     | )          | 2,002                       |       |
| Total liabilities and  stockholders’ (deficiency) equity                                                                                                                                |       | $                        | 9,295      |                        | $          | 14,566 |   |

 

The accompanyingnotes are an integral part of these condensed consolidated financialstatements.

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**WORLDGATE COMMUNICATIONS, INC.**

**CONDENSED CONSOLIDATED STATEMENTSOF OPERATIONS**

**(Unaudited)**

**(InThousands, Except Share and per Share Amounts)**
| ** **                                                                                                    | ** ** | **Three Months ended  March 31,** | ** ** |
|---------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                                                                                    | ** ** | **2007**                                         | ** ** | **2006** | ** ** |
| Net revenues:                                                                                                 |       |                                             |       |   |   |
| Product revenues                                                                                              |       | $                                                | 199        |   | $ | 467 |   |
| Service revenues                                                                                              |       | 111                                              |       | 42 |   |
| Total net revenues                                                                                            |       | 310                                              |       | 509 |   |
| Cost of revenues                                                                                              |       | 349                                              |       | 442 |   |
| Gross margins                                                                                                 |       | (39                                              | )          | 67 |   |
|                                                                                                          |       |                                             |       |   |   |
| Engineering and  development (excluding depreciation and amortization amounts of $105 and $88,  respectively) |       | 1,785                                            |       | 1,454 |   |
| Sales and  marketing (excluding depreciation and amortization amounts of $15 and $14,  respectively)          |       | 1,123                                            |       | 653 |   |
| General and  administrative (excluding depreciation and amortization amounts of $49 and  $77, respectively)   |       | 1,517                                            |       | 2,523 |   |
| Depreciation and  amortization                                                                                |       | 169                                              |       | 179 |   |
| Total expenses from operations                                                                                |       | 4,594                                            |       | 4,809 |   |
| Loss from  operating activities                                                                               |       | (4,633                                           | )          | (4,742 | ) |
| Interest and  other income                                                                                    |       | 98                                               |       | 134 |   |
| Change in fair  value of derivative warrants and conversion options                                           |       | 1,374                                            |       | 182 |   |
| Gain on contract  termination                                                                                 |       | 0                                                |       | 1,792 |   |
| Amortization of  debt discount                                                                                |       | (1,283                                           | )          | 0 |   |
| Interest and  other expense                                                                                   |       | (136                                             | )          | 0 |   |
| Net loss                                                                                                      |       | (4,580                                           | )          | (2,634 | ) |
| Accretion on  preferred stock, dividends and deemed dividends                                                 |       | (14                                              | )          | (69 | ) |
| Net loss  available to common stockholders                                                                    |       | $                                                | (4,594     | ) | $ | (2,703 | ) |
|                                                                                                          |       |                                             |       |   |   |
| Net loss per  common share:                                                                                   |       |                                             |       |   |   |
| Basic and Fully Diluted                                                                                       |       | $                                                | (0.11      | ) | $ | (0.07 | ) |
| Net loss  available to common stockholders per common share:                                                  |       |                                             |       |   |   |
| Basic and Fully Diluted                                                                                       |       | $                                                | (0.11      | ) | $ | (0.07 | ) |
| Weighted average  common shares outstanding:                                                                  |       |                                             |       |   |   |
| Basic and Fully  Diluted                                                                                      |       | 42,057,829                                       |       | 39,595,917 |   |

 

The accompanyingnotes are an integral part of these condensed consolidated financialstatements.

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**WORLDGATECOMMUNICATIONS, INC.CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS(Unaudited)( in Thousands)**
| ** **                                                                   | ** ** | **Three Months ended March 31,** | ** ** |
|------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **2007**                                             | ** ** | **2006** | ** ** |
| Cash flows from  operating activities:                                       |       |                                                 |       |   |   |
| Net loss                                                                     |       | $                                                    | (4,580     | ) | $ | (2,634 | ) |
| Adjustments to reconcile net loss to net cash used  in operating activities: |       |                                                 |       |   |   |
| Depreciation and amortization                                                |       | 169                                                  |       | 179 |   |
| Amortization of debt discount                                                |       | 1,283                                                |       | 0 |   |
| Change in fair value of derivative warrants and  conversion options          |       | (1,374                                               | )          | (182 | ) |
| Gain on contract termination                                                 |       | 0                                                    |       | (1,792 | ) |
| Non-cash stock based compensation                                            |       | 192                                                  |       | 208 |   |
| Write down of inventory                                                      |       | 16                                                   |       | 0 |   |
| Changes in operating assets and liabilities:                                 |       |                                                 |       |   |   |
| Trade accounts receivable                                                    |       | 126                                                  |       | (316 | ) |
| Other receivables                                                            |       | 4                                                    |       | (23 | ) |
| Inventory                                                                    |       | (345                                                 | )          | (433 | ) |
| Prepaid and other assets                                                     |       | 256                                                  |       | 23 |   |
| Accounts payable                                                             |       | (802                                                 | )          | (1,280 | ) |
| Accrued expenses and other current liabilities                               |       | (172                                                 | )          | 506 |   |
| Accrued compensation and benefits                                            |       | 150                                                  |       | 131 |   |
| Warranty reserve                                                             |       | (6                                                   | )          | (5 | ) |
| Deferred revenue                                                             |       | 29                                                   |       | 20 |   |
| Net cash used in operating activities                                        |       | (5,054                                               | )          | (5,598 | ) |
|                                                                         |       |                                                 |       |   |   |
| Cash flows from  investing activities:                                       |       |                                                 |       |   |   |
| Capital expenditures                                                         |       | (38                                                  | )          | (192 | ) |
| Net cash used in investing activities                                        |       | (38                                                  | )          | (192 | ) |
|                                                                         |       |                                                 |       |   |   |
| Cash flows from  financing activities:                                       |       |                                                 |       |   |   |
| Proceeds from issuance of common stock                                       |       | 9                                                    |       | 6 |   |
| Net cash provided by financing activities                                    |       | 9                                                    |       | 6 |   |
| Net decrease in  cash and cash equivalents                                   |       | (5,083                                               | )          | (5,784 | ) |
| Cash and cash  equivalents, beginning of period                              |       | 10,067                                               |       | 16,277 |   |
| Cash and cash  equivalents, end of period                                    |       | $                                                    | 4,984      |   | $ | 10,493 |   |

 
|                                                |   |   |   |   |   |
|-----------------------------------------------------|--------|--------|--------|--------|--------|
| Cash paid for  interest                             |   | $      | 0      |   | $      | 0 |   |
| Non-cash  financing activities:                     |   |   |   |   |   |
| Conversion of preferred stock to common stock       |   | $      | 0      |   | $      | 167 |   |
| Conversion of convertible debenture to common stock |   | 1,000  |   | 0      |   |
| Conversion of derivative liability                  |   | 730    |   | 0      |   |
| Accretion on preferred stock                        |   | 12     |   | 25     |   |
| Dividends payable on preferred stock                |   | 2      |   | 4      |   |
| Deemed dividend on conversion of preferred stock    |   | 0      |   | 40     |   |
| Common stock  issued for accrued dividends          |   | 2      |   | 6      |   |

 

The accompanyingnotes are an integral part of these condensed consolidated financialstatements.

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**WORLDGATE COMMUNICATIONS, INC.**

**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS**

**(Unaudited)**

**(InThousands, Except Share and per Share Amounts)**

1.                                       Basisof Presentation.

The unauditedcondensed consolidated financial statements of WorldGate Communications, Inc. (“WorldGate”or the “Company”) for the three months ended March 31, 2007 and 2006 presentedherein have been prepared by the Company pursuant to the rules and regulationsof the Securities and Exchange Commission for quarterly reports on Form 10-Q.  Certain information and footnote disclosuresnormally included in financial statements prepared in accord­ance with UnitedStates generally accepted accounting principles (“GAAP”) have been condensed oromitted pursuant to such rules and regulations. In addition, the December 31, 2006 Balance Sheet was derived from theaudited financial statements, but does not include all disclosures required byGAAP.  These financial statements shouldbe read in conjunction with the audited financial statements for the year endedDecember 31, 2006 and the notes thereto included in the Company’s Annual Reporton Form 10-K.  The accounting policiesused in preparing these unaudited condensed consolidated financial statementsare materially consistent with those described in the audited December 31, 2006financial statements except for the adoption of FIN 48, which is discussed inNote 4.

The financialinformation in this Report reflects, in the opinion of management, alladjustments of a normal recurring nature necessary to present fairly theresults for the interim period. Quarterly operating results are not necessarilyindicative of the results that may be expected for other interim periods or theyear ending December 31, 2007.

The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States requires management to make estimates andassumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent assets and liabilities, at the date of the financialstatements and the reported amount of revenues and expenses during thereporting period.  Significant estimates relate to inventory valuation,deferred tax valuation allowances, deferred revenues, valuation of derivativeliabilities and stock based compensation. Actual results could differ from those estimates.  Judgments and estimates of uncertainties arerequired in applying our accounting policies in many areas.  Following are some of the areas requiringsignificant judgments and estimates: revenue recognition, accounts receivable,inventories, cash flow and valuation assumptions in performing asset impairmenttests of long-lived assets, income taxes, stock based compensation, value ofredeemable preferred stock, convertible debentures, related warrants andconversion options.

2.                                       Reclassification

Certainreclassifications have been made to the condensed consolidated financialstatements shown for the prior period in order to have it conform to thecurrent period’s classifications.  The reclassificationshave no effect on previously reported losses.

3.                                       Liquidityand Going Concern Considerations.

As of March 31,2007, the Company had cash and cash equivalents of $4,984.  The operatingcash used in operations for the three months ended March 31, 2007 was$5,054. The funds the Company received as a result of private placementsof its securities on December 1, 2003 and December 4, 2003,January 21, 2004, April 22, 2004, June 24, 2004,December 15, 2004, August 3, 2005, August 11, 2006 and October 13, 2006have permitted the Company to fund the development of its business.

The Company had $9,800 ofliabilities and its assets are pledged as collateral as of March 31, 2007.These liabilities include $372 of dividends, detachable warrants and conversionoptions related to the Company’s private placement of preferred stock in June2004 and $6,886 of debt and conversion options related to the Company’sfinancing in August and October 2006.

Our short term cashrequirements and obligations include, inventory, accounts payable and capitalexpenditures from continuing operations, operating expenses, and the redemptionof preferred stock, of which $166 is required to be redeemed in June 2007,although this redemption can be made in common stock if certain conditions aremet.  In addition, the August 2005private placement includes cash payment penalties of 1.5% per month for theperiod that the shares in the transaction fail to be

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registered. TheRegistration Statement covering the shares under this private placement was notdeclared effective until June 1, 2006. Until such time as the shares wereregistered the Company was subject to the penalty provision under this privateplacement. For the three months ended March 31, 2007 and 2006 the Companyrecorded and expensed related penalties of $0 and $787, respectively.  The related unpaid penalty accrued as ofMarch 31, 2007 and December 31, 2006 was $157.

Management expects, basedon our internal forecasts and assumptions including among others, assumptionsregarding our short term cash requirements and our projected revenue resultingfrom sales, that we have sufficient cash on hand to meet our obligations intothe second half of 2007. As shown in the accompanying condensed consolidatedfinancial statements, we have incurred recurring net losses and have anaccumulated deficit of $251,401 as of March 31, 2007.  These factors raise substantial doubt aboutour ability to continue as a going concern. The financial statements do not include any adjustments that might benecessary should we be unable to continue as a going concern.

The Company’s ability to generate cash is dependentupon the sale of Ojo products and on obtaining cash through capitalmarkets. The Company began generating revenue from commercial shipment ofthe Ojo product in April 2005.  Initiallyall product sales were conducted through General Instrument, its exclusivedistributor and all revenue was based upon sales of the Company’s products toGeneral Instrument for their distribution to resellers.  In February 2006, its distributorrelationship with General Instrument was ended and the Company began todirectly distribute and sell its products.   With the completion of the transition activities,  the Company now expects revenues to increaseas it continues to roll out its products to the marketplace. Depending on theramp up of sales and the achievable margin, the increased level of salesactivity should have a positive impact on the Company’s cash flows fromoperations, which should support the Company’s ability to meet its cashrequirements in the long term. Given that the video phone business involves thedevelopment of a new product line with no market penetration, in anunderdeveloped market sector, no assurances can be given that sufficient sales,if any, will materialize.

Additionally, if and asneeded, the Company plans to generate cash by turning to the capital marketsfor further funding.  The Company has received notices from the staff ofthe Nasdaq Stock Market stating that the Company does not comply withMarketplace Rules 4310(c)(2)(B) and 4310(c)(4). If the Company fails to continue to meet these listing requirements, itscommon stock may be delisted from the NASDAQ Capital Market. If the Company’sshares are delisted from the NASDAQ Capital Market, they are likely to becomesubject to the SEC penny stock rules, which could adversely affect the marketliquidity of the Company’s common stock and its ability to raise additionalcapital.  No assurances can be giventhat, if pursued, additional financing transactions can be consummated. The Company continues to evaluate possibilities to obtain additional financingthrough public or private equity or debt offerings, bank debt financing, assetsecuritizations, or from other sources, should the Company need to obtain suchfinancing.  Such additional financing would be subject to the risk ofavailability, may be dilutive to its stockholders, or could impose restrictionson operating activities. There can be no assurance that this additionalfinancing will be available on terms acceptable to the Company, if at all.

Long term cash requirement obligations are primarilyrelated to the June 2004 and the August and October 2006 transactions. TheCompany has long term debt as of March 31, 2007 on the balance sheet reflectingthe convertible debentures issued on August 11 and October 13, 2006.   TheCompany has limited capacity to reduce its workforce and scale back on capitaland operational expenditures to decrease its cash usage.

4.                                       RecentAccounting Pronouncements.

In February 2006, theFinancial Accounting Standards Board (“FASB”) issued Statement of FinancialAccounting Standard (“SFAS”) No. 155 ‘‘Accounting for Certain Hybrid FinancialInstruments, an amendment of FASB Statements No. 133 and 140’’ (‘‘SFAS 155’’).SFAS 155 clarifies certain issues relating to embedded derivatives andbeneficial interests in securitized financial assets. The provisions of SFAS155 are effective for all financial instruments acquired or issued for fiscalyears beginning after September 15, 2006. The adoption of SFAS No. 155 did nothave a material effect on the Company’s condensed consolidated financialposition, results of operations or cash flows.

In March 2006, theFASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets” (“SFAS156”), which amends SFAS 140, “Accounting for Transfers and Servicing ofFinancial Assets and Extinguishments of Liabilities,” with respect to theaccounting for separately recognized servicing assets and servicing liabilities.SFAS 156 permits the choice of the amortization method or the fair valuemeasurement method, with changes in fair value recorded in income, for thesubsequent measurement for each class of separately recognized servicing assetsand servicing liabilities. The statement is effective for years beginning afterSeptember 15, 2006, with earlier adoption permitted. The adoption ofSFAS No. 156 did not have a material effect on the Company’s condensedconsolidated financial position, results of operations or cash flows.

In June 2006, the FASBissued Interpretation No. 48 “Accounting for Uncertainty in Income Taxes — anInterpretation of FASB Statement No. 109” (the “Interpretation”).  The Interpretation establishes for allentities a minimum threshold for financial statement recognition of the benefitof tax positions, and requires certain expanded disclosures.  The Interpretation is 

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effective for fiscalyears beginning after December 31, 2006, and is to be applied to all open taxyears as of the date of effectiveness. The adoption of FASB Interpretation No. 48 did not have a material effect on the Company’s condensedconsolidated financial position or results of operations or cash flows (Note15).

In September 2006, theFASB issued SFAS No. 157 “Fair Value Measurements,” which defines fair value,establishes a framework for measuring fair value in generally acceptedaccounting principles, and expands disclosures about fair valuemeasurements.  Adoption is required for fiscal years beginning afterNovember 15, 2007, and interim periods within those fiscal years.  Earlyadoption of SFAS 157 is encouraged.  The Company is currently evaluatingthe expected effect of SFAS No.157 on its condensed consolidated financialstatements and is currently not yet in a position to determine such effects.

In September 2006, FASB ratified EITF No. 06-1, “Accountingfor Consideration Given by a Service Provider to Manufacturers or Resellers ofEquipment Necessary for an End-Customer to Receive Service from the ServiceProvider”(“EITF 06-1”). This guidance requires theapplication of EITF 01-9, “Accounting for Consideration Given by a Vendor to aCustomer” (“EITF 01-9”), when consideration is given to a reseller ormanufacturer for benefit to the service provider’s end customer. EITF 01-9requires the consideration given be recorded as a liability at the time of thesale of the equipment and, also, provides guidance for the classification ofthe expense. EITF 06-1 is effective for the first annualreporting period beginning after June 15, 2007. The Company has not yetassessed the impact of EITF 06-1 on the Company’s condensedconsolidated financial statements.

In November 2006, theEITF reached a final consensus in EITF Issue 06-6 “Debtor’s Accounting for aModification (or Exchange) of Convertible Debt Instruments” (“EITF 06-6”).  EITF 06-6 addresses the modification of aconvertible debt instrument that changes the fair value of an embeddedconversion option and the subsequent recognition of interest expense for theassociated debt instrument when the modification does not result in a debtextinguishment pursuant to EITF 96-19 , “Debtor’s Accounting for a Modificationor Exchange of Debt Instruments”. The consensus should be applied tomodifications or exchanges of debt instruments occurring in interim or annualperiods beginning after November 29, 2006. We do not expect the adoption of EITF 06-6 to have a material impact onthe Company’s condensed consolidated financial position, results of operationsor cash flows.

In November 2006, theFASB ratified EITF Issue No. 06-7, “Issuer’s Accounting for a PreviouslyBifurcated Conversion Option in a Convertible Debt Instrument When theConversion Option No Longer Meets the Bifurcation Criteria in FASB StatementNo. 133, Accounting for Derivative Instruments and Hedging Activities” (“EITF06-7”). At the time of issuance, an embedded conversion option in a convertibledebt instrument may be required to be bifurcated from the debt instrument andaccounted for separately by the issuer as a derivative under SFAS 133, based onthe application of EITF 00-19. Subsequent to the issuance of the convertibledebt, facts may change and cause the embedded conversion option to no longermeet the conditions for separate accounting as a derivative instrument, such aswhen the bifurcated instrument meets the conditions of Issue 00-19 to beclassified in stockholders’ equity. Under EITF 06-7, when an embeddedconversion option previously accounted for as a derivative under SFAS 133 nolonger meets the bifurcation criteria under that standard, an issuer shalldisclose a description of the principal changes causing the embedded conversionoption to no longer require bifurcation under SFAS 133 and the amount of theliability for the conversion option reclassified to stockholders’ equity. EITF06-7 should be applied to all previously bifurcated conversion options inconvertible debt instruments that no longer meet the bifurcation criteria inSFAS 133 in interim or annual periods beginning after December 15, 2006,regardless of whether the debt instrument was entered into prior or subsequentto the effective date of EITF 06-7.   Theadoption of EITF 06-7 did not have a material impact on the Company’s condensedconsolidated financial position, results of operations or cash flows.

In December 2006, theFASB issued FASB Staff Position (“FSP”) EITF 00-19-2 “Accounting forRegistration Payment Arrangements” (“FSP EITF 00-19-2”) which specifies thatthe contingent obligation to make future payments or otherwise transferconsideration under a registration payment arrangement should be separatelyrecognized and measured in accordance with SFAS No. 5, “Accounting forContingencies.”    Adoption of FSP EITF00-19-02 is required for fiscal years beginning after December 15, 2006. Theadoption of FSP EITF 00-19-02 did not have a material impact on the Company’scondensed consolidated financial position, results of operations or cash flows.

InDecember 2006, the FASB ratified the consensuses reached in EITF IssueNo. 06-3, “How Taxes Collected from Customers and Remitted to GovernmentalAuthorities Should Be Presented in the Income Statement (That Is, Gross versusNet Presentation)” (“EITF 06-3”). The EITF reached a consensus that the scopeof the Issue includes any tax assessed by a governmental authority that is bothimposed on and concurrent with a specific revenue-producing transaction betweena seller and a customer, and may include, but is not limited to, sales, use,value added, and some excise taxes. The presentation of taxes within the scopeof this Issue on either a gross or a net basis is an accounting policy decisionthat should be disclosed. Furthermore, for taxes reported on a gross basis, acompany should disclose the aggregate amount of those taxes in interim andannual financial statements for each period for which an income statement ispresented if that amount is significant. The disclosures required under thisconsensus should be applied retrospectively to interim and 

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annual financialstatements for all periods presented, if those amounts are significant. The Company adopted EITF 06-3 onJanuary 1, 2007.  The adoption ofEITF 06-03 did not have a significant impact on its condensed consolidatedfinancial position or results of operations. The Company currently records its sales net of any value added or salestax.

In February 2007, theFASB issued SFAS No. 159 “The Fair Value Option for Financial Assets andFinancial Liabilities — Including an amendment of FASB Statement No. 115” (“SFASNo. 159”), which permits entities to choose to measure many financialinstruments and certain other items at fair value.  The fair value option established by thisStatement permits all entities to choose to measure eligible items at fairvalue at specified election dates. A business entity shall report unrealizedgains and losses on items for which the fair value option has been elected inearnings at each subsequent reporting date. Adoption is required for fiscal years beginning after November 15,2007.  Early adoption is permitted as of the beginning of a fiscal yearthat begins on or before November 15, 2007, provided the entity also elects toapply the provisions of SFAS  No.159.   The Company is currentlyevaluating the expected effect of SFAS 159 on its condensed consolidatedfinancial statements and is currently not yet in a position to determine sucheffects.

5.                                       Inventory.

The Company’s inventoryconsists solely of finished goods.  TheCompany orders, and purchases, completed, boxed and ready for sale video phoneproducts directly from its supplier.  TheCompany makes no subsequent hardware changes to the products.  The Company does not maintain work in processinventory, component raw materials or supplies, except for very minimalquantities for repair work.  The Companydoes not include tooling, deferred start-up or general and administrative costsin its inventory costs.  The Company alsodoes not maintain specific inventory for any specific long-term contracts orprograms.  The Company tracks and removesinventory only under the “first-in, first-out method” and prices it based uponthe Company’s actual cost unless adjustments are required for obsolescence orfor market valuations.  During the threemonths ended March 31, 2007, the Company reduced inventory by $16 for suchadjustments.

Inventory as ofMarch 31, 2007 and December 31, 2006 is summarized as follows:

|                 | ** ** | **March 31,  2007** | ** ** | **December 31,  2006** | ** ** |
|-----------------|------------|--------------------------|------------|-----------------------------|------------|
| Raw material    |       | $                        | 0          |                        | $          | 0 |   |
| Finished goods  |       | 1,929                    |       | 1,600                       |       |
| Total Inventory |       | $                        | 1,929      |                        | $          | 1,600 |   |

 

6.             Stock Based Compensation.

The Company accounts forstock based compensation using  the fairvalue recognition provisions of SFAS No. 123 (Revised 2004), “Share-BasedPayment,.”  The Company recognized  stock based compensation expense of $192 and$208 for the three months ended March 31, 2007 and 2006, respectively, and suchexpense is included in general and administrative expense in the condensedconsolidated statements of operations.

A summary of the Company’sstock plan is presented below:
| ** **                         | ** ** | **Stock Options** | ** ** | **Weighted-Average  Exercise Price** | ** ** | **Aggregate  Intrinsic Value** | ** ** |
|------------------------------------|------------|------------------------|------------|-------------------------------------------|------------|-------------------------------------|------------|
|                               |       |                   |       |                                      |       |                                |       |
| Outstanding,  January 1, 2007 |       | 4,913,689              |       | $                                         | 1.90       |                                |       |   |
|                               |       |                   |       |                                      |       |                                |       |
| Granted                            |       | 4,500                  |       | $                                         | 1.14       |                                |       |   |
| Exercised                          |       | 0                      |       | 0                                         |       |                                |       |
| Cancelled/forfeited                |       | (19,749                | )          | $                                         | 1.62       |                                |       |   |
| Outstanding,  March 31, 2007  |       | 4,898,440              |       | $                                         | 1.90       |                                | $          | 314,940 |   |
| Exercisable, March 31,  2007       |       | 3,402,740              |       | $                                         | 1.89       |                                | $          | 260,418 |   |

 

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Thefollowing table summarizes information about stock options outstanding atMarch 31, 2007:
| ** **                                  | ** ** | **Stock Options Outstanding** | ** ** | **Stock Options Exercisable**                           | ** ** |
|---------------------------------------------|------------|-----------------------------------------|------------|-------------------------------------------------------------------|------------|
| **Range of Exercise Prices** | ** ** | **Shares**                              | ** ** | **Weighted-  Average  Remaining  Contractual  Life (Years)** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Shares** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** |
| $0.00 - $0.39                               |       | 297,113                                 |       | $                                                                 | 5.93       |   | $ | 0.37 |   | 290,613 |   | $ | 0.37 |   |
| $0.40 - $0.59                               |       | 1,081,000                               |       | 6.51                                                              |       | 0.52 |   | 798,875 |   | 0.52 |   |
| $0.60 - $0.89                               |       | 199,492                                 |       | 6.45                                                              |       | 0.59 |   | 191,992 |   | 0.59 |   |
| $0.90 - $1.34                               |       | 783,750                                 |       | 6.74                                                              |       | 1.06 |   | 589,250 |   | 1.06 |   |
| $1.35 - $2.01                               |       | 830,440                                 |       | 7.44                                                              |       | 1.59 |   | 375,337 |   | 1.73 |   |
| $2.02 - $3.02                               |       | 1,092,998                               |       | 5.94                                                              |       | 2.56 |   | 791,901 |   | 2.58 |   |
| $3.03 - $4.53                               |       | 426,012                                 |       | 7.17                                                              |       | 4.23 |   | 216,437 |   | 4.30 |   |
| $4.54 - $6.80                               |       | 112,533                                 |       | 5.72                                                              |       | 5.90 |   | 73,233 |   | 6.17 |   |
| $6.81 - $10.20                              |       | 40,000                                  |       | 3.88                                                              |       | 8.25 |   | 40,000 |   | 8.25 |   |
| $10.21 - $15.30                             |       | 0                                       |       | 0                                                                 |       | 0 |   | 0 |   | 0 |   |
| $15.31 - $22.95                             |       | 31,046                                  |       | 2.86                                                              |       | 20.44 |   | 31,046 |   | 20.44 |   |
| $22.96 - $34.43                             |       | 4,056                                   |       | 3.26                                                              |       | 28.60 |   | 4,056 |   | 28.60 |   |
|                                        |       | 4,898,440                               |       | $                                                                 | 6.53       |   | $ | 1.90 |   | 3,402,740 |   | $ | 1.89 |   |

 

7.             Accounting for Preferred Shares and Derivative Shares.

In June 2004, WorldGate completed a privateplacement of preferred stock. The preferred stock has a dividend rate of 5% perannum, payable quarterly, either in cash or through the issuance of commonstock at the Company’s option. The preferred stock has a staged maturity overthree years with scheduled payments of one third due after 18 months, one halfof the remainder due after 24 months and the balance due after 36 months, andmay be redeemed at maturity in cash or, at the Company’s option, subject tocertain conditions that may not be solely under the control of the Company, throughthe issuance of the number of shares of common stock determined by dividing theliquidation preference of the preferred shares by the then average market priceover the ten consecutive trading days prior to the date of conversion. Aspart of this private placement the Company was required to file a registrationstatement covering the shares of common stock issuable, including theconversion shares and warrant shares. If the effectiveness of the registrationstatement lapses, the Company ceases to be listed on certain specifiedexchanges and trading in the Company’s stock is suspended or a change incontrol occurs with respect to the Company, the Company may be required tosettle redemption of the preferred stock with cash instead of its commonshares.  Furthermore, since the market price of the Company’s common stockcannot be predicted, the actual number of shares of the Company’s common stockthat will be required if a redemption is made through the issuance of commonstock also cannot be predicted. The private placement includes numerousprovisions intended to protect these institutional investors including a cashpayment penalty of 1.0% per month of the liquidated value for the unredeemedpreferred shares if the registration of the shares lapse and until theregistration again becomes effective. Currently only 166 preferred sharesremain outstanding, with a liquidated value of approximately $168. These sharesmature in June 2007 after which there will be no more penalties. TheCompany has recorded no liability in connection with these liquidated damageprovisions.

The preferred stock has embedded conversion options.Specifically, the holders of the preferred stock may convert their shares intothe Company’s common stock at a conversion price of $2.35 per share. Inaddition the Company may force conversion of the preferred stock into commonstock if the Company achieves certain price targets for its common stock andsatisfaction of certain other conditions, such as the existence of an effectiveregistration statement. In either event the conversion price is subject toadjustment if, at any time after the date the preferred shares were issued, theCompany issues or sells, or is deemed to have issued or sold, any shares of theCompany’s common stock for per share consideration less than the conversionprice of the preferred shares on the date of such issuance or sale. Accordingly, the number of common shares issuable upon the conversion of thepreferred shares cannot be predicted.  Furthermore, net-cash settlementmay be required in the event of conversion default under certain circumstancesthat may not be solely under the control of the Company.  If theeffectiveness of the registration statement lapses, the Company ceases to belisted on certain specified exchanges and trading in the Company’s stock issuspended or a change in control occurs with respect to the Company, theCompany may be required to settle a conversion of the preferred stock with cashinstead of its common shares.

Also, as part of the private placement the Companyissued five-year warrants to purchase up to 803,190 shares of the Company’scommon stock at an exercise price of $2.69 per share and five-year warrants topurchase up to 803,190 shares of the Company’s common stock at an exerciseprice of $3.14 per share. The investors also received an additional investmentright, for a limited period of time, to purchase 1,606,383 additional shares ofcommon stock shares at $3.14 a share. This exercise price of the warrants issubject to adjustment if, at any time after the date the warrants were issued,the Company issues or sells, or is deemed to have issued or sold, any shares ofthe Company’s common stock for per share consideration less than the exerciseprice of the warrants on the date of such issuance or sale.  Accordingly,the number of common shares that will be issued upon the exercise of thewarrants cannot be predicted.  Through March 31, 2007, 125,000warrants exercisable at $2.69 had been exercised and 51,915 warrantsexercisable at $3.14 had been exercised.  All of the additional investmentrights

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had beenexercised as of June 30, 2006.Based on anti-dilution provisions contained withinthis private placement the $2.69 warrants were modified to an exercise price of$2.11 as of March 31, 2007 and the number of outstanding warrants wereincreased by 188,375 related to the issuance of convertible debentures andwarrants in August 2006 and October 2006 and as a result of the conversionprice related to these issuances.  Basedon anti-dilution provisions contained within this private placement the $3.14warrants were also modified to an exercise price of $2.40 as of March 31, 2007and the number of outstanding warrants were increased by 227,772 related to theissuance of convertible debentures and warrants in August 2006 and October 2006and as a result of the conversion price related to these issuances.

Of the 7,550preferred shares issued under this private placement, 7,384 shares have beenredeemed as of March 31, 2007.

With respect to the Company’s accounting for thepreferred stock, Emerging Issues Task Force (“EITF”) Topic D-98, paragraph 4,states that Rule 5-02.28 of Regulation S-X requires securities withredemption features that are not solely within the control of the issuer to berecorded outside of permanent equity. As described above, the terms of thepreferred stock include certain redemption features that may be triggered byevents that are not solely within the control of the Company, such as apotential failure in the Company’s ability to maintain an effectiveregistration statement. Furthermore, the actual number of shares of commonstock required to satisfy redemption is based upon the market value of thecommon stock at the time of the redemption, which cannot be predicted.Accordingly, the Company has classified the preferred stock as temporary equityand the value ascribed to the redeemable preferred stock upon initial issuance,i.e. at June 24, 2004, was the amount received in the transaction minusthe fair value ascribed to the conversion options and warrants. The initialvalue of the redeemable preferred stock is accreted up to the redemption value(the amount received in the transaction) over the future relevant periods usingthe interest method.The value of the redeemable preferred stock at March 31, 2007 was $153.

The terms of the preferred stock include certainconversion options that represent derivative financial instruments underparagraph 12 of SFAS No. 133 and thus were separated from the preferredstock and valued using the Black-Scholes option pricing model.  Theconversion options include certain provisions that could result in a variablenumber of shares to be issued upon conversion, adjustment to the strike priceat which conversion shares will be determined, or the requirement for theCompany to settle the conversion options in cash.  EITF 00-19, “Accounting for DerivativeInstruments Indexed to, and Potentially Settled in, a Company’s Own Stock,”states that if the conversion options require net cash settlement in the eventof circumstances that are not solely within the Company’s control they shouldbe classified as a liability measured at fair value on the balance sheet.

The terms of the five-year warrants include cashpenalty provisions in the event that the Company fails to meet its obligationsto deliver registered shares to the warrant holder upon exercise and ananti-dilution provision that could result in a variable number of shares to beissued upon warrant exercise. Additionally, the terms and conditions of thewarrants provide for net settlement through cashless exercise whereby theshares delivered to the warrant holder would be readily convertible to cash. Inaccordance with EITF 00-19 and given the terms and conditions of the warrantsas outlined above, the Company has classified the warrants as a liability onits balance sheet measured at fair value using the Black-Scholes option pricingmodel.

The Company accounts for both the conversion optionsand warrants using the fair value method at the end of each quarter, with theresultant gain or loss recognition recorded against earnings. Both the warrantsand conversion options are valued using the Black-Scholes valuation model.Actual period close common stock price ($0.70), applicable volatility rate(97%), and the period close risk-free interest rates (4.88% and 4.55%) for theinstrument’s contractual remaining life (.25 and 2.25 years) (continuously compounded), are the key assumptions usedin the valuation calculation.  The resultwas a $637 non cash gain, for the three months ended March 31, 2007, and$182 for the three months ended March 31, 2006, respectively.

At March 31, 2007, afterthe fair value adjustments, the balances of the conversion features derivativeliability and the warrants derivative liability were $0 and $370,respectively.  At March 31, 2006, afterthe fair value adjustments, the balances of the conversion features derivativeliability and the warrants derivative liability were $35 and $859,respectively.

8.             Accountingfor Secured Convertible Debentures and Related Warrants.

On August 11, 2006 theCompany completed a private placement with an institutional investor ofconvertible debentures in the aggregate principal amount of up to $11,000.  These convertible debentures have a maturityof three years, an interest rate of 6% per annum, and are convertible at theoption of the investors into WorldGate common stock at a conversion price equalto the lesser of $1.75 per share or 90% of the average of the five lowest dailyvolume weighted average closing price (“VWAP”) of the common stock during thefifteen trading days immediately preceding the conversion date (subject toadjustment in the event of stock dividends and splits and certain distributionsto stockholders, fundamental transactions, and future dilutive equitytransactions).  Interest is payable at maturity, and the Company may electto pay the interest amount in cash or shares of the Company’s common stock.There was $328 of accrued interest as of March 31, 2007.  Through March 31, 2007 the investorsconverted $2,350 of the convertible debt into 2,130,741 shares of the Company’scommon stock.   In April 2007, theinvestors converted an additional $500 of convertible debt into 812,110 sharesof the Company’s common stock.

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The Companyreceived $6,000 upon the closing of the transaction ($5,615, net of transactioncosts) and the remaining $5,000 ($4,700, net of transaction costs) was receivedon October 13, 2006 after receiving stockholder approval on October 11, 2006and obtaining an effective registration of the shares of common stock issuedand issuable upon conversion of the convertible debentures in the first trancheof this transaction.

The Company hasthe right to redeem all or any portion of the principal amount of theconvertible debentures in cash at any time upon not less than four businessdays notice if the closing price of its stock is less than $1.75 pershare.  Such early redemption will, however, require the Company to pay a10% prepayment premium.   In addition, without any prepaymentpremium, the Company has the right to force the holders to convert a maximum of$500 of the principal amount of the convertible debentures in any thirty dayperiod if for five consecutive trading days the VWAP of the Company’s commonstock is above $1.925 per share but less then $3.50 per share and providing thedaily trading volume exceeds 200,000 shares for these five days, and certainother conditions are met.  If the VWAP ofthe Company’s common stock is greater than $3.50 per share for 30 consecutivetrading days, the daily trading volume exceeds 250,000 shares for five daysprior, and if certain other conditions are met, the Company can also force theholder to convert all or any portion of the outstanding principal and interestinto shares of its common stock without any prepayment premium.

There are somerestrictions on the holder’s right to convert the convertible debentures. The holder cannot make any conversions below $1.75 per share (i) until theearlier of the date registered common stock can be issued pursuant to suchconversion or January 1, 2007, (ii) which would exceed $500 in principal amountin any calendar month, or (iii) which would result in the issuance of more than840,000 shares of our common stock per calendar month (provided that thismaximum share limit will be waived by the Company unless it elects to pay theholder in cash the difference in value between 840,000 shares and the number ofshares the holders wishes to convert, up to the $500 per month conversionlimit).  If the Company is in default under the convertible debenturethese limitations are waived. The holder is also not restricted in makingconversions at $1.75.  In no case,however may the holder convert the convertible debentures if (x) it wouldresult in beneficial ownership of more than 9.99% of our outstanding commonstock (though this provision can be waived by the holder upon 65 days priornotice).  Under certain circumstances, the convertible debenture holdersare entitled to have the conversion price adjusted to correspond to commonstock holders’ rights to any stock dividend, stock split, stock combination orreclassification of shares. The $1.75 conversion price is also subject to aweighted average dilution adjustment if the Company issues shares (apart fromcertain excluded issuances) of its capital stock at an effective price of lessthan $1.75 per share.  The Company also granted the convertible debenturesholders a security interest in all of its assets.  Moreover, the Company is required to registerthe shares of common stock issuable to the investor for resale to the publicpursuant to a registration rights agreement, containing customary terms,conditions and indemnities.  The privateplacement includes numerous provisions intended to protect the institutionalinvestors including a cash payment penalty of 1.0% per month for the periodabove 120 days from the effective date of the agreement that the shares in thetransaction fail to be registered with the aggregate penalty capped at 12%.

In addition, theaggregate number of shares to be issued upon conversion, exercise of thewarrants, payment for commitment shares, and payment of liquidated damagespursuant to the registration rights agreement has been limited to 61,111,111shares of common stock. On September 19, 2006, the Company’s registrationstatement to register the shares under this private placement was declaredeffective.

As part of thisprivate placement the Company issued five-year warrants to purchase a total ofup to 2,595,000 shares of WorldGate common stock, with 1,145,000 of thewarrants having an exercise price of $1.85 per share (with 624,545 of thesewarrants issued at the initial closing and 520,455 warrants issued at theclosing of the second tranche of funding), 1,100,000 of the shares having anexercise price of $2.35 per share (with 600,000 of these warrants issued at theinitial closing and 500,000 warrants issued at the closing of the secondtranche of funding), and 350,000 warrants having an exercise price of $2.60 pershare (with 190,909 of these warrants issued at the initial closing and 159,091warrants issued at the closing of the second tranche of funding on October 13,2006).  In connection with the privateplacement, the Company has issued to the investor as a commitment fee 177,419shares of common stock with a fair value at issuance of approximately $222.

Pursuant to a registration rights agreement associatedwith this transaction at least 27,227,581 shares of common stock including theconversion shares, the warrant shares and the shares issued as part of thecommitment, are required to be registered, of which 7,975,752 shares of commonstock have already been registered and 19,251,828 shares of common stock remainto be registered.  Regarding the 7,975,752 shares already registered, theregistration rights agreement requires that the Company maintain theeffectiveness of such registration statement until all of the securities havebeen sold or until they become eligible for sale pursuant to Rule 144(k).  In the event that the registration statementeffectiveness is not maintained pursuant to these requirements, then theCompany is subject to liquidated damages, payable at the option of the holderin cash or shares of common stock, equal to one percent (1%) of the liquidatedvalue of the convertible debentures outstanding for each thirty (30) dayperiod.  Such liquidated damages shallnot exceed twelve percent (12%) of the aggregate purchase price for allinvestors.   The Company has recorded noliability in connection with these liquidated damage provisions.   Regarding the remaining shares to beregistered, pursuant to a waiver granted by the purchaser of these shares, theCompany has been given until May 30, 2007, to file a registration statement forthese shares. Furthermore such waiver requires

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that any failure to filethis registration statement or to cause it to be declared effective will notresult in any damages becoming due thereunder, liquated or otherwise.  The Company has not yet filed the secondregistration statement.

Upon anyliquidation, dissolution or winding up of the Company, the holder of theconvertible debenture will be entitled to receive the principal amount of theconvertible debenture, together with accrued and unpaid interest, prior to anypayment to the holders of the Company’s common and preferred stock.

The terms of thewarrant agreements provide for the adjustment of the exercise price and thenumber of shares of common stock to be issued upon the Company’s issuance ofcertain securities deemed to be dilutive under the agreement.    Under certain conditions, the holder mayexercise these warrants on a cashless basis.

The market priceof the Company’s common stock cannot be predicted.   Furthermore, subject to the share limitation,as discussed above, the actual number of shares of the Company’s common stockthat will be required if a conversion of the convertible debentures is madethrough the issuance of common stock also cannot be predicted.  Should the Company’s requirements to issueshares under these convertible debenture agreements exceed the sharelimitation, or if it is not listed or quoted for trading on at least the NASDAQOTC Bulletin Board, the Company may be required to settle the conversion of theconvertible debentures with cash instead of its common stock.

The Company accounts for conversion options embeddedin convertible notes in accordance with SFAS No. 133 “Accounting forDerivative Instruments and Hedging Activities” (“SFAS 133”) and EITF 00-19 “Accountingfor Derivative Financial Instruments Indexed to, and Potentially Settled in, aCompany’s Own Stock” (“EITF 00-19”) SFAS 133 generally requires companies to bifurcate conversion optionsembedded in convertible notes from their host instruments and to account forthem as free standing derivative financial instruments in accordance with EITF00-19.   EITF 00-19 states that if theconversion option requires net cash settlement in the event of circumstancesthat are not solely within the Company’s control that they should be classifiedas a liability measured at fair value on the balance sheet.

Upon the issuance date there was an insufficientnumber of authorized shares of Common Stock in order to permit exercise of allof the warrants issued on August 11, 2006.  In accordance with EITF 00-19, when there are insufficient authorizedshares, the obligation for the exercise of investor warrants should beclassified as liability measured at fair value on the balance sheet.   Accordingly, at August 11, 2006, theconvertible feature of the convertible debenture and the warrants were recordedas derivative liabilities of $4,446 and $1,269, respectively.  On October 11, 2006 the Company receivedstockholder approval to increase the authorized shares from 80,000,000 to120,000,000.  Upon re-evaluation onOctober 11, 2006, the value of these warrants at October 11, 2006 wasreclassified to equity at fair value in accordance with the provisions of EITF00-19.

At October 13, 2006, in connection with the $5,000tranche, the convertible feature of the convertible debenture was recorded as aderivative liability of $3,449 and the warrants were recorded as additionalpaid in capital of $230.

The Company accounts for the conversion options usingthe fair value method at the end of each quarter, with the resultant gain orloss recognition recorded against earnings. At March 31, 2007, the conversionoptions are valued using the Black-Scholes valuation model, applying actualperiod close common stock price ($0.70), applicable volatility rate (97 %), andthe period close risk-free interest rates ( 4.56% ) for the instrument’sremaining contractual lives of 2.37 for the $6 million tranche and 2.54years for the $5 million tranche.

At the initialrecording of the August 11, 2006 tranche, the sum of the fair values of theconvertible feature and the warrants, $5,714 in the aggregate, exceeded the netproceeds of $5,615.   The difference of$99 was charged to the provision for fair value adjustment, upon issuanceduring the third quarter of 2006.   Accordingly, the Company recorded a discount equal to the face value ofthe convertible debenture, which will be amortized using the effective interestrate method over the three year term. The common stock issued as fees in the transaction was recorded at a netvalue of $0, as there was no residual value remaining.

For the $5,000tranche issued on October 13, 2006, the Company recorded a discount of $3,979,which is being amortized using the effective interest method over the threeyear term.

During the threemonths ended March 31, 2007, $1,000 in face value of the convertible debentureswere converted, resulting in the issuance of 984,462 shares of commonstock.  As a result of the conversion,$1,000 of the discount on the convertible debenture has been charged todiscount amortization and approximately $730 of the conversion option on theconvertible debt was classified to additional paid in capital.

For the threemonths ended March 31, 2007, the Company has recorded total discountamortization of $1,283 and fair value adjustments of the conversion featurederivative liability and the warrants derivative liability resulted in a gainof $737.

At March 31, 2007,the balances of the convertible debentures and the offsetting related discountwere $8,650 and

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$7,342, respectively.

At March 31, 2007,after the fair value adjustments, the balance of the conversion featuresderivative liability was $5,577.

*Liquidated Damages*.

The Company accounts forpotential registration rights liquidated damage obligations in accordance withFSP EITF 00-19-2 “Accounting for Registration Payment Arrangements.”     The Company has adopted this pronouncementduring the quarter ended March 31, 2007. The adoption of FSP EITF 00-19-02 didnot have a material impact on the Company’s condensed consolidated financialposition, results of operations or cash flows.

9.                                       WarrantyReserve.

The Company provides awarranty covering defects arising from the sales of its video phone product.This warranty is limited to a specific time period. As of March 31, 2007, theCompany has a reserve of $79 that is based on a percentage of productsales.  As of March 31, 2007, theCompany has not incurred any material warranty costs related to its product. Warrantycosts are charged to cost of revenues when they are probable and reasonablyestimable. While the Company believes its estimate at March 31, 2007 isreasonable and adequate, it is subject to change based on our future sales andexperience, which may require an increase or decrease in our reserve.  During the three months ended March 31, 2007,the Company reduced its warranty reserve of $85 at December 31, 2006 by $6.

10.                 Commitmentsand Contingencies.

*Leases*

The Company’s currentfive year lease was signed on September 1, 2005 and covers 42,500 square feetat an annual rate of $11.40 per square foot with a 3% increase annually,cancelable by either party with eight months notice, with a termination bytenant also including six months termination fee.  Total rent expense for each of the three monthsended March 31, 2007 and 2006 amounted to approximately $159 and $159,respectively.

In November 2003,the Company entered into a 60 month lease for office equipment. As ofMarch 31, 2007, there remains a total of $9 to be paid over the remainingperiod of this lease.  InOctober 2005, the Company entered into a 36 month lease for officeequipment. As of March 31, 2007 there remains a total of $11 to be paidover the remaining period of this lease.

The future minimumcommitments under non-cancelable leases for the balance of each of the fiscalyears ending December 31 are as follows:

 

|                                                | ** ** | **(Dollars in  Thousands)** | ** ** |
|------------------------------------------------|------------|----------------------------------|------------|
| 2007(April 1,  2007 through December 31, 2007) |       | $                                | 389        |   |
| 2008                                           |       | 530                              |       |
| 2009                                           |       | 535                              |       |
| 2010                                           |       | 363                              |       |
| Total                                          |       | $                                | 1,817      |   |

*Significant Agreements and Transactions*

The Company has a currentmulti-year agreement with Mototech , an investor, to provide the Company withengineering and development support. As a result of this agreement, the Companyhas expensed approximately $119 and $19, respectively for the three monthsended March 31, 2007 and 2006. Accounts payable to this investor amounted to$733 and $1,377 at March 31, 2007 and December 31, 2006, respectively.This agreement provides for contracted services, including hardware and softwaredevelopment, and the creation and development of tools to facilitate theCompany’s engineering efforts. This agreement does not provide for ongoingroyalties, purchase provisions, or for any requirement to provide additionalfunding to the Company.  Net revenuesfrom operations recognized from Mototech were approximately $1 and $393 for the

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three months ended March 31, 2007 and 2006,respectively This investor accounted for approximately 0% and 77% of therevenues for the three months ended March 31, 2007 and 2006,respectively.  Accounts receivable fromthis investor were $0 and $1, respectively, as of March 31, 2007 and December31, 2006.

11.                 Net Loss per Share (Basic and Diluted).

Basic and dilutednet loss per common share is computed by dividing the net loss available tocommon stockholders for the period by the weighted average number of shares ofcommon stock outstanding during the period. The calculation of diluted net loss per common share excludes potentialcommon shares if the effect is antidilutive. Potential common shares comprise shares of common stock issuable uponthe exercise of stock options and warrants. The number of potential common shares which would have been assumed tobe converted in the three months ended March 31, 2007 and have a dilutiveeffect if the Company had income from continuing operations, or if the options’exercise price was less than the average market price of the common shares, is25,857,064, and for the three months ended March 31, 2006, the number of sharesis 10,965,140.

12.           Stock Options and Warrants.

In October 2004, theCompany’s stockholders approved the 2003 Equity Incentive Plan (“2003 Plan”).This plan   replaced the 1996 Plan fornew grants. No additional shares were reserved for the new plan but rather allavailable shares under the 1996 Plan were made available for the new plan. Aswith the 1996 Plan, the 2003 Plan includes the same automatic annual increasein the number of shares reserved for use with the plan equal to the greater of4% of the then outstanding shares of the Company’s common stock or 1,000,000shares. In addition to ISOs and NQSOs, the 2003 Plan also provides forperformance based awards and restricted stock. At March 31, 2007, there were 9,085,730 shares reserved under these plans,and 4,898,440 options outstanding. During the three months ended March 31, 2007, there were 4,500 optionsgranted to employees.  During the threemonths ended March 31, 2007, there were no options exercised.

At March 31, 2007there were warrants outstanding and exercisable into 7,475,054 shares of theCompany’s common stock (for more details, refer to Note 3).

13.           Revenue Recognition.

Revenue is recognized when persuasive evidence of anarrangement exists, the price is fixed or determinable, the collectibility isreasonably assured, and the delivery and acceptance of the equipment hasoccurred or services have been rendered.  Management exercises judgment inevaluating these factors in light of the terms and conditions of its customercontracts and other existing facts and circumstances to determine appropriaterevenue recognition. Due to the Company’s limited commercial sales history, itsability to evaluate the collectibility of customer accounts requiressignificant judgment. The Company evaluates its equipment customer and servicecustomers’ accounts for collectibility at the date of sale and on an ongoingbasis.

For the year endedDecember 31, 2005, and through mid February 2006, the Company had only onecustomer for the purchase of its product and the agreement with this customerincluded several elements relevant to revenue recognition including:(a) the customer had no general right to return the product; (b) the customer earned warrants upon the purchase of significant videotelephony units and the value of these warrants would result in a reduction ofrecognized revenue (the value of these warrants has been routinely monitored bythe Company and is currently deemed to be insignificant, however, should thevalue of these warrants become material an offset would be made againstrevenues); (c) penalties are payable to the customer if certain excessivefield failure rates are exceeded;  (d) the Company and the customershare in the benefit achieved by product cost reductions; (e) penaltiesare payable to the customer if the Company fails to deliver shipments on atimely basis; (f) the Company extends to the customer a limited productwarranty for a term not to exceed three years (the Company maintains a warrantyreserve based upon the percentage of product sales consistent with industrycomparable failure rates and the warranty period provided by theagreement).  Beginning in mid February2006, as a result of the termination of the General Instrument marketing and distributionagreement, the Company began selling its products to multiple customers and nowevaluates its revenue recognition policy on a customer by customer basis.

Revenues are also offset by a reserve for any pricerefunds and consumer rebates consistent with the EITF Issue 01-9, “Accounting forConsideration Given by a Vendor to a Customer.”

As an incentive topromote delivery of the units, a special product launch discount was providedby the Company to a distributor as a quantity restricted reduction to the unitcontract based price in effect.  Inaddition, the Company offered a forward pricing program to its formerdistributor and a rebate program to consumers, as further incentives for the2005 holiday

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season. Theseincentive programs began in the fourth quarter of 2005 and terminated duringthe first quarter of 2006. Consistent with the EITF Issue 01-9, the Company hasoffset its revenues through a reserve for the total estimated liability for theforward pricing program, and an estimated liability associated with the rebateprogram.    The forward pricingprogram was terminated with the termination on February 17, 2006 of thedistribution agreement with General Instruments, and this liability wasreversed and recorded as a $212 increase to the gain realized from terminationof this agreement.  On March 13, 2006,the Company announced that it was going to offer a new consumer rebate programeffective April 1, 2006 and terminating June 30, 2006.  At March 31, 2007, there was an estimatedliability of $47 associated with this rebate program.  Also, on March 13, 2006 the Company announceda price protection program for certain retailers holding Ojo video phoneinventory as of April 1, 2006.  At March31, 2007, there was no estimated liability associated with this priceprotection program.  These rebate andprice protection programs were recorded as an offset against revenues in thethree months ended March 31, 2007.

From June 2006through March 31, 2007, the Company shipped several thousand units, with asales value of $866, to customers with a right of return.  During the three months ended March 31, 2007,we shipped 33 units with a sales value of $7, to customers with a right ofreturn.  These customers may exercise theirright of return only if they do not sell the units to their respective customers.  Revenue for these units was deferred as ofMarch 31, 2007 in accordance with SFAS 48 “Revenue Recognition when a Right ofReturn Exists.”  The Company does expect,however, to begin recording the sale of these units as revenue when they aresold by its customers.

As part of endingits agreement in 2006 with General Instrument, and in anticipation of WorldGateinventory requirements as a result of taking full responsibility for productdistribution, WorldGate negotiated the right to buy back about two-thirds ofthe units sold to General Instrument, valued at approximately $2,765 (basedupon the original sales price to General Instrument), for approximately $1,064.This is less than half of what it would cost the Company to purchase the sameinventory from its manufacturing sources. As a result the Company recorded a reserve for returns and reducedrevenue in the amount of approximately $2,310, during the fourth quarter of2005. In addition, the Company has recorded no revenue for units shipped to GeneralInstrument in 2006 and recorded a gain on termination of this agreement ofapproximately $1,843 during the twelve months ended December 31, 2006 (of which$1,972 was recorded in the first quarter of 2006) as a result of the lowerpurchase price of the inventory repurchased from General Instrument ($1,393,net of the cost of rework for rebranding the product and the adjustment of theinventory to its current replacement value) and reversal of the product refundprogram reserve ($212) as well as an adjustment of the warranty reserve forproducts repurchased ($233), both of which resulted from termination of theCompany’s agreement with General Instrument.

14.           Risksand uncertainties.

The Company’s primaryline of business is the development of video phone products and technology.Although the Company has realized some revenues for the commercial sale of ourproduct, the revenues to date have not been substantial. Given the early stageof the product and the lack of operating history in the video phone business,it is difficult to predict the Company’s future results.

On April 28, 2004,the Company entered into a multi-year agreement with General Instrument for theworldwide development and distribution of the Ojo personal video phone. Thisagreement provided for General Instrument to be WorldGate’s exclusivedistributor of its broadband video phone products and for WorldGate to beGeneral Instrument’s exclusive supplier of its broadband video phoneproducts.  On February 17, 2006, theCompany mutually agreed with General Instrument to end this agreement.  The ending of this agreement immediatelyterminated this exclusivity for both parties, and accordingly enabled WorldGateto expand its focus in bringing Ojo to the marketplace. In addition to itscurrent role for development and manufacture of Ojo, WorldGate became directlyresponsible for the advertising, marketing, and distribution of its products. Withthe ending of the agreement with General Instrument the Company depends upondistribution partners, including, for example, wholesalers, retailers andservice providers, to provide the worldwide sales and distribution of the Ojovideo phone. If the Company partners are not successful, or if their activitiesdo not lead to significant sales of its product, its operating results will beadversely affected, the Company’s revenue could be significantly reduced andthe Company could lose potential customers.

The Company also dependson relationships with third parties such as contract manufacturing companies, chipdesign companies and others who may be sole source providers of key componentsand services critical for the product the Company is developing in our videophone business. The components and raw materials used in our Ojo video phoneproduct are generally available from a multitude of vendors and are sourcedbased, among other factors, on reliability, price and availability.  A formal relationship with Mototech has beenestablished for the volume manufacture of Ojo. Our agreement with Mototechallows either party to terminate the agreement with 90 days prior notice. IfMototech or other providers of components and/or manufacturing services do notproduce these components or provide their services on a timely basis, if thecomponents or services do not meet our specifications and quality controlstandards, or if the components or services are otherwise flawed, the Companymay have to delay product delivery, or recall or replace unacceptable products.In addition,

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such failures could damage our reputation and couldadversely affect our operating results. As a result, the Company could losepotential customers and any revenues that it may have at that time may declinedramatically.

15.           Accountingfor the Uncertainty in Income Taxes.

The Company hasadopted the provisions of Financial Accounting Standards Board (“FASB”)Interpretation No. 48, “Accounting for Uncertainty in Income Taxes - aninterpretation of FASB Statement No. 109”(“FIN 48”), on January 1, 2007.  FIN 48 clarifies the accounting foruncertainty in income taxes recognized in an enterprise’s financial statementsin accordance with SFAS No. 109, “Accounting for Income Taxes,” and prescribesa recognition threshold and measurement process for financial statementrecognition and measurement of a tax position taken or expected to be taken ina tax return.  FIN 48 also providesguidance on derecognition, classification, interest and penalties, accountingin interim period, disclosure and transition.

The Company hasidentified its federal tax return and its state tax return in Pennsylvania as “major”tax jurisdictions, as defined.  Based onthe company’s evaluation, it has been concluded that there are no significantuncertain tax positions requiring recognition in the Company’s financialstatements.  The Company’s evaluation wasperformed for tax years ended 2003 through 2006, the only periods subject toexamination.  The Company believes thatits income tax positions and deductions would be sustained on audit and doesnot anticipate any adjustments that would result in a material change to itsfinancial position.  In addition, thecompany did not record a cumulative effect adjustment related to the adoptionof FIN 48.

The Company’spolicy for recording interest and penalties associated with audits is to recordsuch items as a component of income before income taxes.  Penalties are recorded in other expense andinterest paid or received is recorded in interest expense or interest income,respectively, in the statement of operations. There were no amounts accrued for penalties or interest as of or duringthe three months ended March 31, 2007. The Company does not expect its unrecognized tax benefit position tochange during the next twelve months. Management is currently unaware of any issues under review that couldresult in significant payments, accruals or material deviations from itsposition.

16.           Geographical Data.

Financial InformationRelating to Foreign and Domestic Operations and Export Sales from ContinuingOperations (Dollars in Thousands) for the three months ended March 31, 2007 andMarch 31, 2006:
| ** **                                                           | ** ** | **2007** | ** ** | **2006** | ** ** |
|----------------------------------------------------------------------|------------|----------|------------|----------|------------|
| Net revenues  from continuing operations by geographic area:         |       |     |       |     |       |
| United States                                                        |       | $        | 301        |     | $          | 109 |   |
| Foreign (*)                                                          |       | 9        |       | 400      |       |
| Total                                                                |       | $        | 310        |     | $          | 509 |   |
| Loss from  continuing operations (all from United States operations) |       | $        | (4,594     | )        | $          | (2,703 | ) |

 
| ** **                                                                              | ** ** | **March 31, 2007** | ** ** | **December 31, 2006** | ** ** |
|-----------------------------------------------------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| Identifiable  assets within the United States                                           |       | $                            | 9,017      |                            | $          | 14,608 |   |
| Identifiable foreign  assets (hardware and tooling for manufacturing) in Taiwan, R.O.C. |       | $                            | 278        |                            | $          | 513 |   |

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* Net revenues for thethree months ended March 31, 2006 include net revenues primarily derived fromsales to customers located in Taiwan, R.O.C. ($393) and others ($7).

17.           Registration rights-August 2005private placement.

In August 2005, the Company sold stock and warrantstotaling $17,500 which were subject to a registration rights agreement. Thecompany accounts for the registration rights agreement in accordance with FSPBITF 00-19-2. This private placement includes numerous provisions intendedto protect these institutional investors including a cash payment penalty of1.5% per month for the period above 120 days from the effective date ofthe agreement that the shares in the transaction fail to be registered or ifthe registration statement ceases to be effective for more than twenty days.The registration statement covering the shares under this private placement wasnot declared effective until June 1, 2006. Until such time as the shareswere registered the Company was subject to the penalty provision under thisprivate placement. For the years ended December 31, 2005 and 2006 theCompany recorded and expensed related penalties of $535 and $1,114,respectively. The related unpaid penalty accrued as of March 31, 2007 was$157. The company is required to maintain the registration statement effectiveuntil August 2007 and if it fails to do so could incur cash penalties in theamount of $525, assuming no securities have been sold by the holders.

18.           SubsequentEvent.

On April 11, 2007,the Company received a notice from Nasdaq stating that the Company does notcomply with Marketplace Rule 4310(c)(2)(B). This rule requires the Company to have a minimum of $2,500 instockholders’ equity or $35,000 market value of listed securities or $500 ofnet income from continuing operations for the most recently completed fiscalyear or two of the three most recently completed fiscal years.   The notice stated that the staff isreviewing the Company’s eligibility for continued listing on The Nasdaq CapitalMarket.

In this noticeNasdaq requested that the Company provide on or before April 26, 2007 theCompany’s specific plan to

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achieve and sustaincompliance with all of The Nasdaq Capital Market listing requirements,including the time frame for completion of the plan.  If, after the conclusion of the reviewprocess, Nasdaq determines that the Company’s plan does not adequately addressthe issues noted, Nasdaq will provide written notification that the Company’ssecurities will be delisted.  At thattime, the Company may appeal the decision to a Nasdaq Listing QualificationsPanel.

On April 17, 2007,the Company received a notice from Nasdaq staff indicating that for the last 30consecutive business days, the bid price of its common stock, $0.01 par value,has closed below the minimum $1.00 per share requirement for continued listingon The Nasdaq Capital Market pursuant to Marketplace Rule 4310(c)(4).  In accordance with Marketplace Rule4310(c)(8)(D), the Company has 180 calendar days from the date of notificationto achieve compliance.  In general, acompany can restore compliance with Marketplace Rule 4310(c)(4) if its commonstock has a closing bid price of $1.00 or more for a minimum of 10 consecutive businessdays.  If the Company has not achievedcompliance by the 180th day, but it can demonstrate as of that date that theCompany meets the criteria for initial listing set forth in Marketplace Rule4310(c) (other than the bid price requirement), the Company will have anadditional 180 days to achieve compliance with Marketplace Rule 4310(c)(4).

The Company provided its plan for regaining compliancewith the Marketplace Rules to Nasdaq on May 4, 2007.

# ITEM 2.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS (Dollar amounts contained in thisItem 2 are in thousands, except for per share amounts)

**FORWARD-LOOKINGAND CAUTIONARY STATEMENTS**

The Company mayfrom time to time make written or oral forward-looking statements, includingthose contained in the following Management’s Discussion and Analysis ofFinancial Condition and Results of Operations. The words “estimate,” “project,”“believe,”“intend,” “expect,” and similar expressions are intended to identifyforward-looking statements, although not all forward-looking statements containthese identifying words.  In order totake advantage of the “safe harbor” provisions of the Private SecuritiesLitigation Reform Act of 1995, we are hereby identifying certain important factorsthat could cause our actual results, performance or achievement to differmaterially from those that may be contained in or implied by anyforward-looking statement made by or on our behalf.  The factors, individually or in theaggregate, that could cause such forward-looking statements not to be realizedinclude, without limitation, the following: (1) difficulty in developing andimplementing marketing and business plans, (2) industry competition factors andother uncertainty that a market for our products will develop, (3) challengesassociated with distribution channels, including both the retail distributionchannel and HSD operators (e.g., uncertainty that they will offer our products,inability to predict the manner in which they will market and price ourproducts and existence of potential conflicts of interests and contractuallimitations impeding their ability to offer our products), (4) continuedlosses, (5) difficulty or inability to raise additional financing on termsacceptable to us, (6) departure of one or more key persons, (7) delisting ofour common stock from the NASDAQ Capital Market, (8) changes in regulatoryrequirements, and (9) other risks identified in our filings with the Securitiesand Exchange Commission.  We caution youthat the foregoing list of important factors is not intended to be, and is not,exhaustive.  We do not undertake toupdate any forward-looking statement that may be made from time to time by oron our behalf.

**Results of Operations:**

**General**

Our video phonebusiness has not produced significant revenues to date.  The extent andtiming of future revenues for our business depends on several factors,including the rate of market acceptance of our products and the degree ofcompetition from similar products.  We cannot predict to what extent ourvideo phone product will produce revenues, or when, or if, we

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will reach profitability.

On April 28,2004, we entered into a multi-year agreement with General InstrumentCorporation d/b/a the Connected Home Solutions Business of Motorola, Inc.(“General Instrument”) for the worldwide development and distribution of theOjo personal video phone. This agreement provided for General Instrument to beWorldGate’s exclusive distributor of its broadband video phone products and forWorldGate to be General Instrument’s exclusive supplier of its broadband videophone products.  On February 17, 2006, wemutually agreed with General Instrument to end this agreement.  The ending of this agreement immediatelyterminates exclusivity for both parties. In addition to its current role forthe development and manufacture of Ojo, WorldGate  assumed direct responsibility and control forthe advertising, marketing, and distribution of its products.

Under ourdevelopment and distribution agreement with General Instrument, GeneralInstrument was responsible for the distribution of our products and for thedirect relationship with the distributors, dealers, and other resellersultimately used to sell the products.  Inaddition, General Instrument marketed our products and maintained an inventoryof our products.  In performing thesefunctions General Instrument carried the associated risks, costs andexpenses.  As a result of ending ouragreement with General Instrument, we assumed these responsibilities and theassociated risks, costs and expenses, and this places increased demands on thecash which we have available.  AlthoughGeneral Instrument’s price of our product to its reseller customers included amark-up from its cost of the product from us that was intended to reflect itsrisks, cost and expenses, plus its profit, we are charging these resellercustomers a lower price and we cannot be assured that the new price willinclude a sufficient mark-up to cover the risks, costs and expenses that are nowour responsibility going forward.

Under itsagreement with General Instrument, WorldGate had been active in marketing andpromoting its products, and working with General Instrument to distribute Ojo.WorldGate intends to continue the rollout of Ojo using many of the samedistributors, retailers and service providers and plans to expand distributionto service providers and retailers around the world.  In addition todirect sales on our web site, we will continue to rely upon a distributionorganization of dealers, distributors, original equipment manufacturers, valueadded resellers, service providers and other resellers to market and sell ourvideo phone products, many of which will be the same as those used by GeneralInstrument.  To enable our own retaildistribution efforts we have hired an experienced retail consumer electronicsexecutive to direct our efforts in this area.   Under its agreement with General Instrument, WorldGate’s video phoneproducts were required to be co-branded with the Ojo brand (which WorldGatecontinued to own) and the Motorola brand. As the result of ending our agreement with General Instrument, we havedropped the Motorola brand.

General Instrumentalso maintained the necessary infrastructure to handle distribution logistics,including customer ordering, inventory warehousing, billing, customer service,credit and accounts receivable functions multiple customers.  Until February 17, 2006 all of our revenuefor the sale of our video phones was derived from General Instrument, a singlecustomer, and there were minimal administrative costs associated with billingand collecting this revenue.  The Companynow has multiple customers and bears the associated increased administrativecosts and risks of collection. WorldGate also is in the process of developingthe necessary infrastructure to handle multiple customers and these otherlogistical functions.

As part of endingour agreement in 2006 with General Instrument, and in anticipation of WorldGateinventory requirements as a result of taking full responsibility for productdistribution, WorldGate negotiated the right to buy back about two-thirds ofthe units sold to General Instrument, valued at approximately $2,765 (basedupon the original sales price to General Instrument), for approximately $1,064.This is less than half of what it would cost the Company to purchase the sameinventory from its manufacturing sources. For more details, refer to Note 13 to our condensed consolidatedfinancial statements for the three months ended March 31, 2007.

The Company doesnot believe it is necessary to establish a reserve for retailer returns toGeneral Instrument.  In the Company’sdiscussions with the retailers eligible for such returns, the retailers haveindicated their intention to continue to sell the Company’s video phoneproducts and to date the Company has not received any returned products.

As part of endingthe development and distribution agreement, General Instrument has agreed tocertain restrictions on its development of a stand-alone video phone productwhich has as a primary function of making or receipt of video phone calls overa broadband network.  Such restrictions ended in January 2007.

*CriticalAccounting Policies and Estimates.*

Our condensedconsolidated financial statements have been prepared in accordance withaccounting principles generally accepted in the United States.  These generally accepted accountingprinciples require management to make estimates and assumptions that affect thereported amounts of assets and liabilities and disclosure of contingent assetsand liabilities at the date of the financial statements and the reportedamounts of net revenues and expenses during the reporting period.  Actual results could differ from thoseestimates.

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Our significantaccounting policies are described in the notes to the consolidated financialstatements included in our annual report on Form 10-K.  Judgments and estimates of uncertainties arerequired in applying our accounting policies in many areas.  Following are some of the areas requiringsignificant judgments and estimates: revenue recognition, accounts receivable, inventory, cash flow andvaluation assumptions in performing asset impairment tests of long-livedassets, income taxes, stock based compensation,value of redeemable preferredstock, convertible debentures and related warrants and conversion options.Management has discussed the development and selection of these policies withthe Audit Committee of the Company’s Board of Directors, and the AuditCommittee of the Board of Directors has reviewed the Company’s disclosures ofthese policies. There has been no material changes to the critical accountingpolicies or estimates reported in the Management’s Discussion and Analysissection of the audited financial statements for the year endedDecember 31, 2006 as filed with the Securities and Exchange Commission.

Three Months EndedMarch 31, 2007 and March 31, 2006.

*Revenues.*

Net revenues for the three months ended March 31, 2007and 2006 were $310 and $509, respectively, primarily reflecting the  product and service revenues from the Company’sdirect distribution of the Ojo product.  For the three months ended March 31, 2007, product revenues were $199and service revenues were $111 compared to product revenues of $467 and servicerevenues of $42 for the three months ended March 31, 2006.  The product revenues represent deliveries ofvideo phones .  The reduction of $268, or57%, in product revenues during 2007, with respect to the comparable period in2006, primarily reflects reduced product shipments to service providerspartially offset by increased product shipments to retail customers.  Also, from June 2006 through March 31, 2007we shipped several thousand units to customers with a right of return shouldthe units not be sold through to their customer. Revenue for these units weredeferred as of March 31, 2007 in accordance with FAS 48 “Revenue Recognitionwhen a Right of Return Exists”.  However,we do expect to begin recording these shipments as revenue as and when theseunits are sold by our customers.  Theincrease in monthly recurring service revenues of $69, or 164%, for the threemonths ended March 31, 2007 compared to the three months ended March 31, 2006,reflects the monthly revenue from accumulating video phones purchased thenactivated for the service required for the video phones operations over thecustomer’s internet connection.

During the three months ended March 31, 2007 and 2006,we provided forward pricing discounts to retailers and certain serviceoperators in order to help promote distribution and consumer purchases.  In the case of retail sales, the Companyexpects that recurring revenues from service fees will offset any loss on thesale of the product.  This forwardpricing, coupled with inventory adjustments for lower market valuations, hasresulted in a net margin loss for the three months ended March 31, 2007 of $39and reduced margin for the three months ended March 31, 2006 by $67.

As part of ending our agreement with GeneralInstrument during the first quarter of 2006, and in anticipation of ourinventory requirements as a result of taking full responsibility for productdistribution, we negotiated the right to buy back about two-thirds of the unitssold to General Instrument, valued at approximately $2,765 (based upon theoriginal sales price to General Instrument), for approximately $1,064. This isless than half of what it would cost us to purchase the same inventory from itsmanufacturing sources.  As a result werecorded a reserve for returns and reduced revenue in the amount ofapproximately $2,310 during the fourth quarter of 2005. In addition we recordedno revenue for units shipped to General Instrument in the three months endedMarch 31, 2006 and recorded a gain on termination of this agreement ofapproximately $1,792 for the three months ended March 31, 2006, increased to$1,843 for the twelve months ended December 31, 2006, as a result of the lowerpurchase price of this inventory (net of the cost of rework for rebranding theproduct).

*Costsand Expenses.*

*Costof Revenues.*   The cost of revenues, consisting ofproduct and delivery costs relating to the deliveries of video phones, was $349and $442, respectively, for the three months ended March 31, 2007 and2006.   The reduced level of video phoneshipments for the three months ended March 31, 2007, as compared to the sameperiod in 2006, primarily accounted for the reduction in the cost for theserevenues.  However, excess replacementparts of $64 and an inventory valuation reduction of $16 in the three monthsended March 31, 2007, that were not incurred during the three months endedMarch 31, 2006, offset the decrease in cost of revenues in the first quarter of2007 versus the same period in 2006.

*Engineeringand Development.*   Engineering and developmentexpenses primarily consist of compensation, and the cost of design,programming, testing, documentation and support of the Company’s video phoneproduct.  Engineering and developmentcosts were $1,785 for the three months ended March 31, 2007, compared with$1,454 for the three months ended March 31, 2006. This increase of $331, or23%, for the three months ended March 31, 2007, reflects the Company’sincreased engineering staff, and related costs, for the further and continuingdevelopment of its video phone product.

*Salesand Marketing.*   Sales and marketing expensesconsist primarily of compensation (which includes compensation to manufacturer’srepresentatives and distributors), attendance at conferences and trade shows,travel costs, advertising, promotions and other marketing programs (whichincludes expenditures for co-op advertising and new market development) 

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related to the continued introduction of the Company’svideo phone product.  Sales and marketingcosts were $1,123 for the three months ended March 31, 2007, compared with $653for the three months ended March 31, 2006. This increase of $470, or 72%, for the three months ended March 31,2007, reflects the increase in advertising and related marketing andpromotional expenditures associated with the Company’s video phone product.

*Generaland Administrative.*   General and administrativeexpenses consist primarily of expenditures for administration, office andfacility operations, finance and general management activities, includinglegal, accounting and professional fees. General and administrative expenses were $1,517 for the three monthsended March 31, 2007, compared with $2,523 for the three months ended March 31,2006. This decrease of $1,006, or 40%, for the three months ended March 31,2007 is primarily attributable to reduced expenditures during the first quarterof 2007 for financial and legal fees of $118 and an expenditure of $805recorded in the first quarter of 2006 relating to certain penalties associatedwith a previous financing.  There was nopenalty recorded in the first quarter of 2007.

*Interestand Other Income and Interest Expense.*   Interestand other income consist of interest earned on cash and cash equivalents.Interest expense of $136 primarily consists of accrued interest on theconvertible debentures issued on August 11, 2006 and October 13, 2006 (see Note8 to our condensed consolidated financial statements for the three months endedMarch 31, 2007).  Interest and otherincome decreased from $134 for the three months ended March 31, 2006 to $98 forthe three months ended March 31, 2007, primarily due to lower average levels ofinvested funds during the first three months of 2007 compared to the sameperiod in 2006.  During the three monthsended March 31, 2007 and 2006, the Company earned interest on its average cashbalances which approximated $7,665 and $13,355, respectively.

*IncomeTaxes.*   The Company has incurred net operatinglosses since inception and accordingly had no income taxes and has not recordedany income tax benefit for those losses, since realization of such benefit iscurrently uncertain.

*NonCash Change in Fair Value of Derivative Warrants and Conversion Options.*   Forthe three months ended March 31, 2007 the non cash change in fair value ofderivative warrants and conversion options was a gain of $1,374.  For the three months ended March 31,2006 the non cash change in fair value of derivative warrants and conversionoptions was income of $182. These fair value adjustments are primarily a resultof changes in our common stock price at each reporting period related to ourJune 24, 2004 private placement of our Series A Convertible Preferred Stock andWarrants and our August 11, 2006 and October 13, 2006 private placements ofsecured Convertible Debentures and Warrants.

*Amortizationof Debt Discount.*   For the three months endedMarch 31, 2007 the amortization of the debt discount was $1,283, relating tothe August 11, 2006 and October 13, 2006 private placements of securedConvertible Debentures.  During the threemonths ended March 31, 2007, the $1,283 of amortization of debt discountreflected $1,000 of converted debentures and $283 of discountamortization.  This discount, at the timeof completion of this private placement on August 11, 2006, was initiallyrecorded for $4,446, and the  discountfor the October 13, 2006 convertible debenture issuance was initially recordedas $3,979.  These discounts will beamortized using  the effective interestrate method over the three year term of the convertible debentures (see Note 8to our condensed consolidated financial statements for the three months endedMarch 31, 2007).

Liquidity andCapital Resources.

As of March 31, 2007, our primary source ofliquidity consisted of cash and cash equivalents that are highly liquid, are ofhigh quality investment grade and have original maturities of less than threemonths.

At March 31, 2007, we had cash and cashequivalents of $4,984 as compared to cash and equivalents of $10,067 atDecember 31, 2006. Net cash used in operating activities was $5,054 and$5,598, respectively, for the three months ended March 31, 2007 and 2006.This decrease in net cash used in operating activities was primarilyattributable to our decrease in expenditures during the three months endedMarch 31, 2007 compared to the same period in 2006, related primarily to areduction of expenditures relating to legal and financial services of $114 anda $480 expenditure during the first quarter of 2006 for repurchased productspreviously sold to General Instrument totaling $1,064, which included theoffset of $584 of accounts receivables due the Company.  No bad debt expense was recorded for thethree months ended March 31, 2007 and 2006.

Cash used for investing activities were primarily aresult of investments in equipment for product development and manufacture aswell as for general administrative and project management purposes.   For the three month periods ending March 31,2007 and 2006, such investments were $38 and $192, respectively.

Cash provided by financing activities during the threemonths ended March 31, 2007 was primarily the result of employee stockpurchases under the WorldGate 2001 Employee Stock Purchase Plan.  Total cash provided by financing activitiesin 2007 was $9 compared to $6 during the same period in 2006.

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Operations and Liquidity.

To date, we have funded operations primarily throughmultiple private sales of equity securities, through the issuance ofconvertible debentures and through an initial public offering of common stockin April 1999. The financing secured on August 11, 2006 (see Note 3 to ourcondensed consolidated financial statements for the three months ended March31, 2007)  has added long term debt tothe balance sheet and the Company has pledged its assets as collateral.  We continue to evaluate the possibilities toobtain further additional financing through public or private equity or debtofferings, bank debt financing, asset securitizations, or from other sources.Such additional financing would be subject to the risk of availability, may bedilutive to our stockholders, or could impose restrictions on operatingactivities.  The Company has receivednotices from the staff of the Nasdaq Stock Market stating that the Company doesnot comply with Marketplace Rules 4310(c)(2)(B) and 4310(c)(4).  If we fail to continue to meet these listingrequirements, our common stock may be delisted from the NASDAQ Capital Market.If our shares are delisted from the NASDAQ Capital Market, they are likely tobecome subject to the SEC penny stock rules, which could adversely affect themarket liquidity of our common stock and our ability to raise additionalcapital.  There can be no assurance thatthis additional financing will be available on terms acceptable to us, if atall.

The report of the independent registered public accountingfirm for the year ended December 31, 2006 includes an explanatoryparagraph stating that our Company had suffered recurring losses fromoperations and had an accumulated deficit of $246,806, and that these issuesraised substantial doubt about our Company’s ability to continue as a goingconcern. Our short term cash requirements and obligations include inventory,accounts payable and capital expenditures from continuing operations, operatingexpenses, and the redemption of preferred stock, of which $166 is required tobe redeemed in June 2007, although this redemption can be made in commonstock if certain conditions are met.   Inaddition, the August 2005 private placement includes cash payment penalties of1.5% per month for the period that the shares in the transaction fail to beregistered. The Registration Statement covering the shares under this privateplacement was not declared effective until June 1, 2006.  Until such time as the shares were registeredthe Company was subject to the penalty provision under this private placement.For the three months ended March 31, 2007 and 2006 the Company recorded andexpensed related penalties of $0 and $787, respectively.  The related unpaid penalties accrued as ofMarch 31, 2007 and December 31, 2006 was $157. On July 25, 2006, the Company amended the terms of the additionalinvestment right that was granted to an investor as part of the August 2005private placement, with respect to a portion of shares of common stockpurchasable thereunder and agreed to apply $158 of accrued penalties towardsthe exercise price of such amended additional investment right, for thepurchase of 129,950 shares of common stock. The penalties had accrued withrespect to the Company’s inability to register the shares acquired by suchinvestor in the private placement within 120 days of the transaction.  In consideration for this amendment andapplication of the exercise proceeds the investor agreed to forego any cashpayment of the penalties other than as available through the proceeds of theexercise of the amended investment right and to grant to the Company a releaseof all claims relating to the late registration of the private placementshares, other than the aforesaid penalties.  The amended additionalinvestment right provides that the investor thereof may purchase the 129,950shares of common stock for a period of 760 days beginning June 1, 2006 for anexercise price of $1.515 per share.  The terms of the additionalinvestment rights with respect to the remaining 1,424,050 shares of commonstock purchasable thereunder remain unchanged. On July 26, 2006 this investor exercised the additional investment rightfor 129,950 shares.  On July 31,2006 the amended additional investment right with respect to the remaining1,424,050 shares of common stock expired.  On December 12, 2006 the Company amended the terms of the warrants thatwere granted to an investor as part of the August 2005 private placement, withrespect to a portion of shares of common stock purchasable thereunder andagreed to apply $315 of accrued penalties towards the exercise price of suchamended warrants, for the purchase of 279,255 shares of common stock. Inaddition, the exercise price of 47,412 of the warrants was changed to $1.41 pershare.  The penalties had accrued withrespect to the Company’s inability to register the shares acquired by suchinvestor in the private placement within 120 days of the transaction.  In consideration for this amendment andapplication of the exercise proceeds the investor agreed to forego any cashpayment of the penalties other than as available through the proceeds of theexercise of the amended warrant and to grant to the Company a release of allclaims relating to the late registration of the private placement shares, otherthan the aforesaid penalties.  The amended warrants provide that theinvestor thereof may purchase the 326,667 shares of common stock for a periodof 1,330 days beginning December 12, 2006 for an exercise price of $1.41 pershare.  The terms of the warrants with respect to the remaining shares ofcommon stock purchasable thereunder remain unchanged.  On December 19, 2006 this investor exercisedthe warrants for the purchase of 279,255 shares.

The ending of the General Instrument agreement onFebruary 17, 2006 placed additional cash burdens on the Company and impactedour cash requirements and usage.  As partof ending its agreement with General Instrument, and in anticipation ofWorldGate inventory requirements as a result of taking full responsibility forproduct distribution, WorldGate negotiated the right to buy back abouttwo-thirds of the units sold to General Instrument, valued at approximately$2,765 (based upon the original sales price to General Instrument), forapproximately $1,064. This is less than half of what it would cost the Companyto purchase the same inventory from its manufacturing sources.  For more details, refer to Note 3 to ourcondensed consolidated financial statements for the three months endedMarch 31, 2007.

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Management expects, based on our internal forecastsand assumptions including among others, assumptions regarding our short termcash requirements and our projected revenue resulting from sales,  that we have sufficient cash on hand to meetour obligations into the second half of 2007. As shown in the accompanyingconsolidated financial statements, we have incurred recurring net losses andhave an accumulated deficit of $251,401 as of March 31, 2007.  These factors raise substantial doubt aboutour ability to continue as a going concern. The financial statements do not include any adjustments that might benecessary should we be unable to continue as a going concern.

Our ability to generate cash is dependent upon thesale of our Ojo product and on obtaining cash through capital markets.  Webegan generating revenue from commercial shipment of our Ojo product in April2005 and we expect revenues to increase as the product continues to roll out tothe marketplace. Depending on the ramp up of sales and the achievable margins,the increased level of sales activity should have a positive impact on our cashflows from operations, which will support our ability to meet our cashrequirements in the long term. Given that our video phone business involves thedevelopment of a new product line with no market penetration, in anunderdeveloped market sector, no assurances can be given that sufficient sales,if any, will materialize. During the three months ended March 31, 2007, weprovided forward pricing discounts to retailers and certain service operator sales in order to help promote distributionand consumer purchases.  In the case ofretail sales, the Company expects that recurring revenues from service feeswill offset any loss on the sale of the product.  This forward pricing, coupled with inventoryadjustments for obsolescence and lower market valuations, has resulted in a netmargin loss for the three months ended March 31, 2007 of $39.

We, however, remain hopeful that sufficient sales willmaterialize and/or that sufficient funding can be developed through ongoingoperations or further additional financings to continue our operations beyond2007.

Our long term cash requirement obligations areprimarily comprised of the items noted above and the financing secured onAugust 11, 2006 and October 13, 2006 (see Note 3 to our condensed consolidatedfinancial statements for the three months ended March 31, 2007).   We havelimited capacity to reduce our workforce and scale back on capital andoperational expenditures to decrease our cash usage.

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ITEM 3.   QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK.

Interest Rate Risk.   Our exposure to market riskrelated to changes in interest rates relates primarily to our investmentportfolio.  We invest in instruments thatmeet high credit quality standards, and we limit the amount of credit exposurewith respect to any one issue, issuer and type of investment.

As of March 31, 2007, the Company’s cash and cashequivalents were $4,984, which were comprised of securities having a maturityof less than three months.  Due to theaverage maturity and conservative nature of our investment portfolio,management believes a sudden change in interest rates would not have a materialeffect on the value of the portfolio. Manage­ment estimates that had theaverage yield of our investments decreased by 100 basis points, our interestincome for the three months ended March 31, 2007 would have decreased byapproximately $25. This estimate assumes that the decrease occurred on thefirst day of 2007 and reduced the yield of each investment instrument by 100basis points.  The impact on our futureinterest income of future changes in investment yields will depend largely onour total investments.

Foreign Currency Exchange Risk.  Although we transact business in variousforeign countries substantially all of our revenues and costs to date have beendenominated in U.S. dollars.  Althoughour agreement with Mototech, Inc. (not an affiliate of General Instruments orMotorola), our contract manufacturer in Taiwan, is denominated in U.S. dollars,their material acquisition costs are subject to exchange rate changes thatcould impact our product costs.

# ITEM 4.    CONTROLS AND PROCEDURES.

We maintain disclosure controls and procedures (asdefined in Exchange Act Rule 13a-15(e) and 15d-15(e))  that are designed to ensure that informationrequired to be disclosed in reports that we file or submit under the SecuritiesExchange Act of 1934 is recorded, processed, summarized, and reported withinthe time periods specified in the Securities and Exchange Commission’s rulesand forms, and that such information is accumulated and communicated to ourmanagement, including our Chief Executive Officer and Chief Financial Officer,as appropriate to allow timely decisions regarding the required disclosures. Indesigning and evaluating the disclosure controls and procedures, we recognizethat any controls and procedures, no matter how well designed and operated, canprovide only reasonable assurance of achieving the desired control objectives

As previously reported in our Form 10-K for the yearended December 31, 2006, we identified material weaknesses with respect to theCompany’s application of GAAP with regard to the recording of inventory at thelower of cost or market value.  Toaddress the material weakness related to the application of GAAP with regard tothe recording of inventory at the lower of cost or market value the Companyimplemented a detailed closing procedure which analyzes the inventory regardingits carrying cost at closing compared to its actual unit selling pricesrealized during the current period reported, and subsequent to the reportedclosing date, to ensure that period ending inventory is properly reported,documented and is consistent with GAAP.

We carried out an evaluation, under the supervisionand with the participation of management, including our Chief Executive Officerand Chief Financial Officer, of the effectiveness of the design and operationof our disclosure controls and procedures as of March 31, 2007.  As a result of the actions taken with respectto the Company’s application of GAAP with regard to the recording of inventoryat the lower of cost or market value, the Chief Executive Officer and ChiefFinancial Officer concluded that as of March 31, 2007, we no longer have amaterial weakness (as defined under standards established by the Public CompanyAccounting Oversight Board)  that existswith respect to the Company’s application of GAAP with regard to the recordingof inventory at the lower of cost or market value and our disclosure controlsand procedures are designed and were effective in ensuring that the informationrequired to be disclosed by our Company in the reports that we file and submitunder the Exchange Act is recorded, processed, summarized and reported withinthe time periods specified in the Commission’s rules and forms.

Other than the above noted change in control procedureduring the first quarter of 2007, there has been no other changes in ourinternal control over financial reporting that occurred during the three monthsended March 31, 2007 that have materially affected, or are reasonably likely tomaterially affect, our internal control over financial reporting.  The Company is also implementing a financialsystem that it believes will improve the internal control over financialreporting and eliminate any identified deficiencies.

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**PART II. OTHERINFORMATION**

# ITEM 1.   LEGALPROCEEDINGS.

None.

# ITEM 1A  RISKFACTORS.

The following sets forth material changes to the riskfactors we previously disclosed in our annual report on Form 10-K for thefiscal year ended December 31, 2006 (the “2006 Form 10-K”) in response to Item1A of Form 10-K. In addition to other information in this Form 10-Q and the2006 Form 10-K, the following risk factors should be carefully consideredin evaluating our company and our business. Investing in our common stockinvolves a high degree of risk, and you should be able to bear the completeloss of your investment. We also caution you that this Form 10-Q and the 2006Form 10-K include forward-looking statements that are based on management’sbeliefs and assumptions and on information currently available to management.Future events and circumstances and our actual results could differ materiallyfrom those projected in any forward-looking statements. You should carefullyconsider the risks described below, the other information in this Form 10-Q,the 2006 Form 10-K, the documents incorporated by reference therein andthe risk factors discussed in our other filings with the Securities andExchange Commission when evaluating our company and our business. The risks anduncertainties described below and in the 2006 Form 10-K are not the only oneswe face. Additional risks and uncertainties not presently known by us or thatwe currently deem immaterial also may impair our business operations. Ifany of the following risks actually occur, our business could be harmed. Insuch case, the trading price of our common stock could decline and investorscould lose all or part of the money paid to buy our common stock.

**Effect of theSecured Convertible Debenture**

**The secured convertible debentures and warrantsmay have an adverse impact on the market value of our common stock.**

The sale of stock issuable upon conversion of thesecured convertible debentures and upon exercise of the warrants issued orissuable in connection with our August 11, 2006 private placement and thesubsequent closing thereunder on October 13, 2006, or even the possibility oftheir sale, may adversely affect the trading market for our common stockand adversely affect the prevailing market price of our common stock.

The existence of rights under such debentures andwarrants to acquire our common stock at fixed prices may prove a hindranceto our efforts to raise future equity and debt funding, and the exercise ofsuch rights will dilute the percentage ownership interest of our stockholdersand may dilute the value of their ownership.

**Thesecured convertible debentures and warrants may adversely affect ourfinancial flexibility.**

The secured convertible debentures impose asignificant debt burden on us that could have adverse consequences on ourbusiness. The amount of the debentures could adversely affect us in anumber of ways, including the following:

·                  we may be unableto obtain additional  financing  for workingcapital, capital  expenditures, acquisitions and generalcorporate purposes;

·                  debt-service requirements couldreduce the amount of cash we have available for other purposes;

·                  we may  be  restricted in our ability tomake strategic acquisitions and to exploit business opportunities; and

·                  we may be requiredto make cash payments under the terms of the debentures which would reduce theamount of cash we have available for other purposes.

Our ability to make payments of principal and intereston our debt, whether in cash or shares of our common stock, depends upon ourfuture performance, general economic conditions and financial, business andother factors affecting our operations, many of whichare beyond our control.  If we are not able to make thesepayments with shares of our common stock or generate sufficient cash flow fromoperations in the future to service our debt we may be required, among otherthings:

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·                  to seekadditional financing in the debt or equity markets;

·                  to refinance orrestructure all or a portion of our debt; or

·                  to sell assets.

These measures might not be sufficient toenable us to service our debt.  In  addition, anysuch  financing, refinancing or sale of assets might not beavailable on economically favorable terms.

**The securedconvertible debentures and warrants may adversely affect our operationalflexibility.**

The terms of the August 11, 2006 private placementimpose restrictions on us that may affect our ability to successfullyoperate our business.  The transaction documents contain a number ofcovenants that may restrict our ability to operate, including, among otherthings, covenants that restrict our ability:

·      to incur additional indebtedness;

·      to pay dividends on our capital stock(except for our preferred stock);

·      to redeem or repurchase our common stock;

·      to issue shares of common stock, orsecurities convertible into common stock;

·      to use our assets as security in othertransactions;

·      to create liens on our assets; and

·      to enter into certain transactions withaffiliates.

Further, the debentures limit our ability to enterinto change of control transactions by providing that any such transactioncould constitute an event of default with respect to the debentures.  Anevent of default could result in acceleration of our indebtedness and permitthe investor to foreclose on our assets.

**In the event that our common stock is delisted fromthe NASDAQ Capital Market, it may be subject to the requirements of the rulesrelating to “penny stocks.”**

Our common stock is currently listed on the NASDAQCapital Market, which has requirements for the continued listing of stock.  On April 11, 2007, the Company receiveda notice from the staff of the Nasdaq Stock Market stating that the Companydoes not comply with Marketplace Rule 4310(c)(2)(B).  This rulerequires the Company to have a minimum of $2,500 in stockholders’ equity or$35,000 market value of listed securities or $500 of net income from continuingoperations for the most recently completed fiscal year or two of the three mostrecently completed fiscal years.   On April 17, 2007, theCompany received a notice from the staff of the Nasdaq Stock Market indicatingthat for the last 30 consecutive business days, the bid price of itscommon stock, $0.01 par value, has closed below the minimum $1.00 per sharerequirement for continued listing on The Nasdaq Capital Market pursuant toMarketplace Rule 4310(c)(4).  If wefail to continue to meet these listing requirements, our common stock may bedelisted from the NASDAQ Capital Market. If our shares are delisted from theNASDAQ Capital Market, they are likely to become subject to the SEC penny stockrules, which could adversely affect the market liquidity of our common stock.These rules impose additional sales practice requirements on broker-dealersthat sell low-priced securities to persons other than established customers andinstitutional accredited investors; and require the delivery of a disclosureschedule explaining the nature and risks of the penny stock market. As aresult, the ability or willingness of broker-dealers to sell or make a marketin our common stock might decline, and you could find it more difficult to sellyour stock and raise capital.

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES ANDUSE OF PROCEEDS.

As disclosed in our quarterly report on Form 10-Q forthe quarterly period ended June 30, 2006, we entered into a purchase agreementwith an institutional investor on August 11, 2006 pursuant to which, on August11, 2006, we issued a convertible debenture in the principal amount of $6,000to the investor.  For the three months ended March 31, 2007, the investorconverted $1,000 of the convertible debt into 984,462 shares of the Company’scommon stock.

The shares issued upon conversion of the convertibledebentures were issued in reliance upon the exemption from the registrationrequirements of the Securities Act of 1933 afforded to transactions notinvolving a public offering by Section 4(2) of that Act and Rule 506thereunder. On October 11, 2006, an effective registration was obtained of theshares of common stock issued and issuable upon conversion of the debenture inthe first tranche of this transaction.

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ITEM 3.  DEFAULTS UPON SENIOR SECURITIES.

None.

# ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

None.

# ITEM 5.  OTHERINFORMATION.

None.

ITEM 6.  EXHIBITS.

The following is a listof exhibits filed as part of this report on Form 10-Q.  Where so indicated by footnote, exhibits thatwere previously filed are incorporated by reference.  For exhibits incorporated by reference, thelocation of the exhibit in the previous filing is indicated parentheticallyexcept in those situations where the exhibit number was the same as set forthbelow.

** **
| Exhibit | ** ** | **Description**                                                                                                                                                               |
|---------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1     |       | Amended and Restated Certificate of Incorporation  (3)                                                                                                                        |
| 3.2     |       | Amended and Restated Bylaws (1)                                                                                                                                               |
| 3.3     |       | Certificate of Amendment to Certificate of  Incorporation, dated October 18, 2004 (3)                                                                                         |
| 3.4     |       | Certificate of Designations, Preferences and Rights  of the Series A Convertible Preferred Stock of the Company dated June 23,  2004(2)                                       |
| 4.1     |       | Securities Purchase Agreement, dated as of August  11, 2006, by and among the Company and Cornell Capital Partners, LP(4)                                                     |
| 4.2     |       | Investor Registration Rights Agreement, dated August  11, 2006, by and among the Company and Cornell Capital Partners, LP(4)                                                  |
| 4.3     |       | Form of Secured Convertible Debenture issuable by  the Company to Cornell Capital Partners, LP pursuant to the Securities  Purchase Agreement, dated as of August 11, 2006(4) |
| 31.1    |       | Certification of Chief Executive Officer Pursuant to  Rule 13a-14(a)*                                                                                                         |
| 31.2    |       | Certification of Chief Financial Officer Pursuant to  Rule 13a-14(a)*                                                                                                         |
| 32.1    |       | Certification of Chief Executive Officer Pursuant to  18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act  of 2002*                                   |
| 32.2    |       | Certification of Chief Financial Officer Pursuant to  18 U.S.C. Section 1350, as adopted by Section 906 of the Sarbanes-Oxley Act  of 2002*                                   |

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*                    Filedherewith

(1)             Incorporatedby reference to the exhibits to our Form 10-Q Report for the quarter endedMarch 31, 1999.

(2)             Incorporatedby reference to the exhibits to our Form 8-K Current Report filed on June 25,2004 (Exhibit 3.1).

(3)             Incorporatedby reference to the exhibits to our Form 10-Q Report for the quarter endedSeptember 30, 2004 as filed on November 17, 2004.

(4)             Incorporatedby reference to the exhibits to our Form 10-Q Report for the quarter endedJune 30, 2006 as filed on August 14, 2006.

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**SIGNATURES**

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.
|        |         | WORLDGATE COMMUNICATIONS, INC.               |
|--------|--------------|----------------------------------------------|
|   |         |                                         |
|   |         |                                         |
|   |         |                                         |
| Date:  | May 10, 2007 |                                         | /s/ Hal M. Krisbergh |
|   |         | Hal M. Krisbergh                             |
|   |         | Chairman and Chief Executive Officer         |
|   |         | (Principal Executive Officer)                |
|   |         |                                         |
|   |         |                                         |
| Date:  | May 10, 2007 |                                         | /s/ Joel Boyarski |
|   |         | Joel Boyarski                                |
|   |         | Vice President and Chief Financial Officer   |
|   |         | (Principal Financial and Accounting Officer) |

 

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